Question: Question 3 The CRO day is progressing smoothly and you are contemplating a well-deserved drinks at the pub party in a few hours. As the

Question 3 The CRO day is progressing smoothly and you are contemplating a well-deserved drinks at the pub party in a few hours. As the last working session, the CEO asks for your help in clarifying credit risk management processes at the bank. (a) Analyse the concept of recovery rate and the importance of loan collateral to manage loss-given default down. (5 marks) The CEO is asking whether covenants commonly found in loan agreements are also valid to enhance the recovery rate. (b) Distinguish collaterals from covenants in managing credit risk for loans. (5 marks) The bank offers several loan types to a wide range of businesses and individuals. The CEO mentions five recent examples: an overdraft facility to a household, a bridge loan to a construction firm, a revolving credit facility to a small retail business, an uncommitted line to a highly-rated bank, and a mezzanine loan to a leveraged buy-out business.

Type of loan	Overdraft facility to a household	Bridge loan to a construction firm	Revolving credit facility to a small retail business	Uncommitted line to a highly-rated bank	Mezzanine loan to a leveraged buy-out business
Adequate loan support
Justification

(c) Determine and apply one (1) adequate loan support, if any, for each of the five types of loan mentioned by the CEO. (10 marks)

The CEO shares that the bank has substantial exposures to the airline transport business. Loans to airline companies are usually backed by a pledge on the aircraft. While most borrowers in this sector have remained credit-worthy, he is concerned that the value of the collateral on those loans may now be overestimated. (d) Describe recovery risk and illustrate the impact of the recent COVID-19 pandemic on the value of collaterals in the airline industry. (10 marks)

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