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Suppose there are two ratings categories: A and B, along with default. The ratings-migration probabilities look like this for a B-rated loan: Rating in 1

Suppose there are two ratings categories: A and B, along with default. The ratings-migration probabilities look like this for a B-rated loan:

Rating in 1 year

Probability

A 0.05 B 0.9 Default 0.05

The yield on A rated loans is 5%; the yield on B rated loans is 10%. All term structures are flat (i.e. forward rates equal spot rates). A loan in default pays off 50%.

b. Compute next years mean value for each loan.

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