RSK4804
EXAM REVISION
PACK
2026
, 2025 RSK4804 Assignment 1 solutions
ASSIGNMENT 01 Due date: 30 May 2025 Unique number 865733
Aim: To evaluate your knowledge of some of the fundamental aspects of credit risk
management.
Answer the following questions and submit your assignment on myUnisa, at
https://my.unisa.ac.za. Limit your assignment to a maximum of six pages. Use Times
New Roman, font size 12.
Question 1 [10]
a. Explain the two most important drivers of credit risk and how those relate to the
probability of default (PD). (5)
b. As head of credit risk at Daspoort Investment Bank, you are considering approval
of a five-year credit asset (business term loan) with a bullet (balloon) repayment
at the end of a term. The term loan shows a marginal probability of default of
1.3%, 1.5%, 1.2%, 1.7%, and 2.2% for each of the five years, respectively. How
would you find the cumulative probability of default over the five-year period for
pricing purposes? (5)
Solution:
a) Drivers of credit risk
The debt amount that can be recovered when default occurs (LGD) and the actual
amount owed by the creditor at the time of default (EAD) are the two important drivers
of credit risk, more so than PD. Any uncertainty in EAD and LGD will result in portfolio
credit loss. Others may include, but are not limited to, macroeconomic conditions and
geopolitical factors, as well as the concentration of risk within a portfolio. √√√√√
b) Cumulative Probability = 1 – (1 – PD1) x (1 – PD2) x (1 – PD3) x (1 – PD4) x (1
– PD5) √
= 1 – (1- 0.013) x (1-0.015) x (1-0.012) x (1-0.017) x (1-
0.022) √
= 1 – (0.987) (0.985) (0.988) (0.983) (0.978)
, 2025 RSK4804 Assignment 1 solutions
= 1 – 0.923 √
= 0.077 or 7.7% over 5yrs, which may be considered for
pricing√√
Question 2 [10]
The Merton model, which was proposed in 1974 by economist Robert C. Merton, is a
mathematical formula that stock analysts and commercial loan officers, among others,
can use to judge a corporation’s risk of credit default and ability to retain solvency.
This model assesses the structural credit risk of a company by modeling its equity as
a call option on its assets.
With the above statement in mind, the current value of the assets of Sibasa Agricultural
Holdings is R130 million. The assets are financed by a mix of equity and zero-coupon
debt. The current value of the zero-coupon debt is R75 million, and the final amount
to be paid on maturity after five years is R120 million, with an effective interest rate of
13.25%. The volatility in Sibasa Agricultural Holdings’ asset value is 23%. The
following is required:
a. Compute the probability of default (PD) of Sibasa Agricultural Holdings based
on the Merton model. (5)
b. What is the impact on the probability of default (PD) if the volatility suddenly
decreases to 21%? (5)
Solution:
= ln (130/120) + [(.1325) + (.5) (.232)] *5 √
.23(√5)
= ln (1.083) + (.1325 +.0260)5/.514
= .0770 + 0.793/.514√ (calculator ln (1.083) = 0.080)
= 1.692, using normal value tables, N(dl) = .9545√
PD = 1 – N(dl)√
, 2025 RSK4804 Assignment 1 solutions
= 1 – 0.9545
= 0.046 = 4.6%√
There is therefore a 95.5% chance that the total assets of Sibasa Agricultural Holdings
will be above R130m, meaning that the chance of default is only 4.6%.
If asset volatility decreases to 21%, then: -
Ln (130/120) + [(.1325 +(.5) (. 212)] *5 √
.21(√5)
= ln (1.083) + (.1325 +.022)5/.470
= .0770 + 0.773/.470√
= 1.809, using normal value tables, N(dl) = .9706√
PD = 2.9%, or 3.46% due to ln = 0.080; decrease! √√
There is therefore, 97% chance that the total assets of Sibasa Agricultural Holdings
will be above R130m, meaning that the chance of default now drops to 2.9%.
Question 3 [15]
Internal rating systems deployed by banks and financial institutions differ from
organisation to organisation. As a potential future credit risk analyst, you are required
to identify a local or international financial (lending) institution or a retailer that extends
credit facilities to new and existing clients. Your focus must include, but not be limited
to, the following: -
• Understanding of the organisation’s internal rating systems
• A process that has been put in place
• Decision to deny or approve a credit line to a customer
• How the credit quality of a client’s portfolio is maintained
Document your visit/call and provide feedback relating to your findings.
Conditions:
(a) Physical visit to the entity or telephonic contact is a must –
originality is required. Also, it is mandatory to provide the name of
the company (organisation), place, business type, name of the
person interviewed, and the date.
(b) Any “cut and paste” from resources will not attract marks.
EXAM REVISION
PACK
2026
, 2025 RSK4804 Assignment 1 solutions
ASSIGNMENT 01 Due date: 30 May 2025 Unique number 865733
Aim: To evaluate your knowledge of some of the fundamental aspects of credit risk
management.
Answer the following questions and submit your assignment on myUnisa, at
https://my.unisa.ac.za. Limit your assignment to a maximum of six pages. Use Times
New Roman, font size 12.
Question 1 [10]
a. Explain the two most important drivers of credit risk and how those relate to the
probability of default (PD). (5)
b. As head of credit risk at Daspoort Investment Bank, you are considering approval
of a five-year credit asset (business term loan) with a bullet (balloon) repayment
at the end of a term. The term loan shows a marginal probability of default of
1.3%, 1.5%, 1.2%, 1.7%, and 2.2% for each of the five years, respectively. How
would you find the cumulative probability of default over the five-year period for
pricing purposes? (5)
Solution:
a) Drivers of credit risk
The debt amount that can be recovered when default occurs (LGD) and the actual
amount owed by the creditor at the time of default (EAD) are the two important drivers
of credit risk, more so than PD. Any uncertainty in EAD and LGD will result in portfolio
credit loss. Others may include, but are not limited to, macroeconomic conditions and
geopolitical factors, as well as the concentration of risk within a portfolio. √√√√√
b) Cumulative Probability = 1 – (1 – PD1) x (1 – PD2) x (1 – PD3) x (1 – PD4) x (1
– PD5) √
= 1 – (1- 0.013) x (1-0.015) x (1-0.012) x (1-0.017) x (1-
0.022) √
= 1 – (0.987) (0.985) (0.988) (0.983) (0.978)
, 2025 RSK4804 Assignment 1 solutions
= 1 – 0.923 √
= 0.077 or 7.7% over 5yrs, which may be considered for
pricing√√
Question 2 [10]
The Merton model, which was proposed in 1974 by economist Robert C. Merton, is a
mathematical formula that stock analysts and commercial loan officers, among others,
can use to judge a corporation’s risk of credit default and ability to retain solvency.
This model assesses the structural credit risk of a company by modeling its equity as
a call option on its assets.
With the above statement in mind, the current value of the assets of Sibasa Agricultural
Holdings is R130 million. The assets are financed by a mix of equity and zero-coupon
debt. The current value of the zero-coupon debt is R75 million, and the final amount
to be paid on maturity after five years is R120 million, with an effective interest rate of
13.25%. The volatility in Sibasa Agricultural Holdings’ asset value is 23%. The
following is required:
a. Compute the probability of default (PD) of Sibasa Agricultural Holdings based
on the Merton model. (5)
b. What is the impact on the probability of default (PD) if the volatility suddenly
decreases to 21%? (5)
Solution:
= ln (130/120) + [(.1325) + (.5) (.232)] *5 √
.23(√5)
= ln (1.083) + (.1325 +.0260)5/.514
= .0770 + 0.793/.514√ (calculator ln (1.083) = 0.080)
= 1.692, using normal value tables, N(dl) = .9545√
PD = 1 – N(dl)√
, 2025 RSK4804 Assignment 1 solutions
= 1 – 0.9545
= 0.046 = 4.6%√
There is therefore a 95.5% chance that the total assets of Sibasa Agricultural Holdings
will be above R130m, meaning that the chance of default is only 4.6%.
If asset volatility decreases to 21%, then: -
Ln (130/120) + [(.1325 +(.5) (. 212)] *5 √
.21(√5)
= ln (1.083) + (.1325 +.022)5/.470
= .0770 + 0.773/.470√
= 1.809, using normal value tables, N(dl) = .9706√
PD = 2.9%, or 3.46% due to ln = 0.080; decrease! √√
There is therefore, 97% chance that the total assets of Sibasa Agricultural Holdings
will be above R130m, meaning that the chance of default now drops to 2.9%.
Question 3 [15]
Internal rating systems deployed by banks and financial institutions differ from
organisation to organisation. As a potential future credit risk analyst, you are required
to identify a local or international financial (lending) institution or a retailer that extends
credit facilities to new and existing clients. Your focus must include, but not be limited
to, the following: -
• Understanding of the organisation’s internal rating systems
• A process that has been put in place
• Decision to deny or approve a credit line to a customer
• How the credit quality of a client’s portfolio is maintained
Document your visit/call and provide feedback relating to your findings.
Conditions:
(a) Physical visit to the entity or telephonic contact is a must –
originality is required. Also, it is mandatory to provide the name of
the company (organisation), place, business type, name of the
person interviewed, and the date.
(b) Any “cut and paste” from resources will not attract marks.
