Explanation:
The Basel Committee introduced the terms effective expected exposure (EEE) and effective expected positive exposure (EEPE) in 2005 to address the limitations of expected exposure (EE) and expected positive exposure (EPE). One of the main shortcomings of EE and EPE was that they could underestimate exposure for short-dated transactions. This is because these measures do not fully capture the 'roll-over risk' associated with these transactions. Roll-over risk arises when current short-dated transactions are rolled over into new transactions at their maturity.
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Q.1939 To overcome the shortcomings of expected exposure (EE) and expected positive exposure (EPE), the Basel Committee in 2005 introduced two new terms: the effective expected exposure (EEE) and the effective expected positive exposure (EEPE). What were the reasons behind these changes?
A
EE and EPE may underestimate exposure for short-dated transactions and do not take into account roll-over risk.
B
EE and EPE may overestimate exposure for short-dated transactions and do not take into account roll-over risk.
C
EE and EPE may underestimate exposure for long-dated transactions and do not take into account roll-over risk.
D
EE and EPE may underestimate exposure for short-dated transactions and only take into account roll-over risk.
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