Question

Credit risk measures using the structural model: assume a company has the following characteristics.

Time t value of the firm’s assets: At = $3,000
Expected return on assets: u = 0.05 per year
Risk-free rate: r = 0.02 per year
Face value of the firm’s debt: K = $2,000
Time to maturity of the debt (tenor): T – t = 1 year
Asset return volatility: σ = 0.35 per year
(a) Calculate the probability that the debt will default over the time to maturity.
(b) Calculate the expected loss.
(c) Calculate the present value of the expected loss.

Answer 1

a ) Probability of default of debt over the time to maturity is 12.92%

(b ) Expected loss: $39.53

(C ) Present value of expected loss is $45.59

Step-by-step explanation:

a ) Probability of default of debt over the time to maturity is 12.92%

(b ) Expected loss: $39.53

(C ) Present value of expected loss is $45.59.

Values calculated as shown in my detailed step by step answer at the attachment.

please kindly refer to attachment.