Rockville Bank is reviewing its loan portfolios to estimate how diversified their portfolios are. For internal...

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Finance

Rockville Bank is reviewing its loan portfolios to estimate howdiversified their portfolios are. For internal purposes, the Bankassesses credit risk into four categories – High Quality, AverageQuality, Poor Quality, and Default. Over the years, the followingtransition matrix has evolved:
From/to
High
Average
Poor
Default
High
80%
15%
4%
1%
Average
10%
65%
20%
5%
Poor
5%
15%
55%
25%
For example, a loan rated High Quality this year has a 80%probability of remaining High Quality next year, a 15% probabilityof falling to Average Quality, and so on.
Based on this data, if
This year the portfolio contains $1,050M of High Quality, $325Mof Average Quality, and $85M of Poor Quality loans, giving a totalloan portfolio of $1,460M.
a. Estimate the loan portfolio mix in one year.
b. Suppose the bank wishes to maintain the current relative mixof credit type, High, $1,050M/$1,460M = 72%, Average, $325M/$1,460M= 22%, and Poor, $1,050M/$1,460M = 6%. How many new loans and ofwhat type must the bank sell during the year to maintain thisrelative mix?

Answer & Explanation Solved by verified expert

4.0 Ratings (485 Votes)

All financials below are in mn a Estimate the loan portfolio mix in one year Please see the working below The nomenclature in the tables below will help you understand the mathematics This years portfolio mn Nomenclature High See Answer

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Transcribed Image Text

Rockville Bank is reviewing its loan portfolios to estimate howdiversified their portfolios are. For internal purposes, the Bankassesses credit risk into four categories – High Quality, AverageQuality, Poor Quality, and Default. Over the years, the followingtransition matrix has evolved:From/toHighAveragePoorDefaultHigh80%15%4%1%Average10%65%20%5%Poor5%15%55%25%For example, a loan rated High Quality this year has a 80%probability of remaining High Quality next year, a 15% probabilityof falling to Average Quality, and so on.Based on this data, ifThis year the portfolio contains $1,050M of High Quality, $325Mof Average Quality, and $85M of Poor Quality loans, giving a totalloan portfolio of $1,460M.a. Estimate the loan portfolio mix in one year.b. Suppose the bank wishes to maintain the current relative mixof credit type, High, $1,050M/$1,460M = 72%, Average, $325M/$1,460M= 22%, and Poor, $1,050M/$1,460M = 6%. How many new loans and ofwhat type must the bank sell during the year to maintain thisrelative mix?

From/to	High	Average	Poor	Default
High	80%	15%	4%	1%
Average	10%	65%	20%	5%
Poor	5%	15%	55%	25%