Explanation:
To find the rate charged for the contingent liquidity risk across the entire line of credit, we must calculate the expected cost of funding the undrawn amount and spread this cost over the total limit.
1. Identify parameters:
$40 million$12 million$40m - $12m = $28 million2. Calculate expected drawn amount:
Expected draw = Undrawn amount × Probability of drawing
Expected draw = $28 million × 0.45 = $12.6 million
3. Calculate the cost of the contingent liquidity risk:
Cost = Expected draw × Cost of term funding
Cost = $12.6 million × 12 bps = 151.2 bps-millions
4. Calculate the rate charged on the total limit:
Rate = Cost / Total limit
Rate = 151.2 bps-millions / $40 million = 3.78 bps
The rate charged for contingent liquidity risk on the line of credit is 3.78 bps.
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Q.55 Calculate the rate charged for contingent liquidity risk of a line of credit assumed to have a limit of $40 million where $12 million has already been drawn. Further, suppose there is a 45% chance that the customer will draw on the remaining credit and that the cost of term funding assets in the liquidity cushion is 12 bps.
A
3.78 bps
B
1.62 bps
C
8.37 bps
D
7.02 bps
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