Probability of default (PD) represents the risk, expressed as a percentage, that a debtor (borrower, lessee) will default in the coming 12 months, determined by evaluating the debtor’s current and future ability to fulfill its interest and principal repayment obligations.  PD considers the characteristic and credit history of the debtor and the nature of the transaction.

PD provides a continuous spectrum of default risk and shows how much difference there is in credit quality between credits.  Probability of default is obligor risk – not transaction risk – and is measured separately from the risk of loss or inadequate recovery of asset collateral value.  Internal ratings and the ratings of external ratings agencies may be used to determine PD.

One-Year US Commercial Transition Rates 2014 (%)
Rating at End of Year (%)
Initial AAA AA A BBB BB B CCC/C D NR
AAA 87.03 9.03 0.54 0.05 0.08 0.03 0.05 0.00 3.19
AA 0.54 86.53 8.14 0.54 0.06 0.07 0.02 0.02 4.07
A 0.03 1.83 87.55 5.38 0.35 0.14 0.02 0.07 4.64
BBB 0.01 0.11 3.58 85.44 3.75 0.56 0.13 0.20 6.23
BB 0.01 0.03 0.14 5.16 76.62 6.96 0.66 0.76 9.64
B 0.00 0.03 0.10 0.21 5.40 74.12 4.37 3.88 11.89
CCC/C 0.00 0.00 0.14 0.22 0.65 13.26 43.85 26.38 15.49
Source: Standard & Poor’s

Exposure at default (EAD) is the exposure of a creditor (bank, leasing company) at the moment the debtor goes into default equal to the unamortized balance of a financial exposure (lease, loan) at default.  The unamortized balance (UAB) is the net investment in a loan or other financial asset less the amount of accumulated amortization recognized since its origination, which is the net book value (NBV) and current value of the receivable.

Related Items