If the full notional value of a debt portfolio is $100m, its expected value in a year is $85m, and the worst value of the portfolio in one year’s time at 99% confidence level is $60m, then what is the credit VaR?

If the full notional value of a debt portfolio is $100m, its expected value in a year is $85m, and the worst value of the portfolio in one year’s time at 99% confidence level is $60m, then what is the credit VaR?
A . $40m
B . $25m
C . $60m
D . $15m

View Answer

Answer: B

Explanation:

Credit VaR is the difference between the expected value of the portfolio and the value of the portfolio at the given confidence level. Therefore the credit VaR is $85m – $ 60m = $25m. Choice ‘b’ is the correct answer.

Note that economic capital and credit VaR are identical at a risk horizon of one year. Therefore if the question asks for economic capital, the answer would be the same. [Again, an alternative way to look at this is to consider the explanation given in III.B.6.2.2: Credit Var = Q(L) – EL where Q(L) is the total loss at a given confidence interval, and EL is the expected loss. In this case Q(L) – $100-$60 = $40, and EL = $100-$85=$15. Therefore Credit VaR = $40-$15=$25.]