Question: Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD = 0.03X1 + 0.02X2 - 0.05X3

Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD = 0.03X1 + 0.02X2 - 0.05X3 + error, where X1 is the borrower's debt/equity ratio, X2 is the volatility of borrower earnings, and X3 = 0.10 is the borrower’s profit ratio. For a particular loan applicant, X1 = 0.75, X2 = 0.25, and X3 = 0.10.
a. What is the projected probability of default for the borrower?
b. What is the projected probability of repayment if the debt/equity ratio is 2.5?
c. What is a major weakness of the linear probability model?

Step by Step Solution

★★★★★

3.47 Rating (170 Votes )

There are 3 Steps involved in it

1 Expert Approved Answer

Step: 1 Unlock

a PD 003075 002025 005010 00225 b PD 00325 002025 005010 007... View full answer

Question Has Been Solved by an Expert!

Get step-by-step solutions from verified subject matter experts

Step: 2 Unlock

Step: 3 Unlock

Document Format (1 attachment)

665-B-B-F-M (3460).docx

120 KBs Word File

Students Have Also Explored These Related Banking Questions!

An FI has a loan portfolio of 10,000 loans of $10,000 each. The loans have a historical average default rate of 4 percent and the severity of loss is 40 cents per dollar. a. Over the next year, what...

Suppose there were two factors influencing the past default behavior of borrowers: the leverage or debtassets ratio (D/A) and the profit margin ratio (PM). Based on past default (repayment)...

Suppose that a U.S. FI has the following assets and liabilities: Assets Liabilities $ 300 million U. S. loans . $ 500 million U. S. CDs (one year) in dollars . (one year) in dollars $ 200 million...

1. Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD=0.03X1 + 0.02X2 - 0.05X3 + error, where X is the borrower's debt/equity...

Can you show me step by step how to solve? Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD0.05X1 + 0.025X2 - 0.06X3 + error...

Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD = 0.03X1 + 0.02X2 0.05X3 + error, where X1 is the borrowers debt/equity...

20. Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD = 0.03X1 + 0.02X2 0.05X3 + error, where X1 is the borrowers...

Suppose the estimated linear probability model used by an FI to predict business loan applicant default probabilities is PD = 0.03X 1 + 0.02X 2 - 0.05X 3 + error, where X 1 is the borrower's...

Fill in the missing amounts from the following T accounts. Oct. 2 23 31 Nov. 11 Nov. 30 (e) Cash 6,000 7,000 13,000 2000 15,000

True or False: 1. When the United States was on an internal gold standard, the dollar was defined as equivalent in value to a certain amount of gold. 2. When two forms of money are available, people...

Identify where each of the following transactions would be found on the bank reconciliation. Please Put either Y for Yes or N for No . Transaction Increase to Bank Side Decrease to Bank Side Increase...

Do you think marketers should feel good or bad about kids being so anxious to buy their new products?

Which loans should have the highest yields: (a) loans sold with recourse or (b) loans sold without recourse?

What role did the swap market play in the financial crisis of 20082009? The following problem refers to material in Appendix 25A.

Consider the following fixed-floating-rate currency swap of assets: 5 percent (annual coupon) fixed-rate US$1 million bond and floating-rate SFr1.5 million bond set at LIBOR annually. Currently LIBOR...

Springfield Bank is evaluating Creek Enterprises, which has requested a $4,150,000 loan, to assess the firm's financial leverage and financial risk. On the basis of the debt ratios for Creek, along...

Case: While quantitative characteristics such as PRICE and SQFT are critical decision factors, Super Maxx Realty would like to gain insight into the qualities (e.g. styles, number of bedrooms, view)...

"Managing Ratios and Ethical Accounting" Please respond to the following: Complete the investment allocation questionnaire, located at...