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Question

Difficulty: EasyNon-Systematic and Credit Risks

During a routine portfolio review, a trustee observes that a municipal utility district has suffered severe local revenue declines, leading credit rating agencies to express concern over the utility's capability to make upcoming interest payments on its outstanding bonds. Which type of risk is directly highlighted by this situation?

  1. Credit riskAnswer
  2. B
    Interest rate risk
  3. C
    Market risk
  4. D
    Purchasing power risk

Answer

Credit risk is the risk that an issuer will fail to make timely payments of interest or principal.
Credit risk refers to the potential financial loss resulting from a borrower or bond issuer failing to meet contractual debt obligations, such as timely interest or principal payments.

Step-by-Step Solution

1
Analyze the core threat in the scenario
The issue involves an issuer struggling to make scheduled interest payments due to declining revenues.
Identifying whether the risk stems from issuer financial health versus macroeconomic forces determines the risk category.
2
Map the threat to the appropriate risk definition
The possibility of default or payment delay by a specific issuer is classified as credit (default) risk.
Credit risk specifically measures the creditworthiness of the debtor and the probability of debt default.

Key Concept

Credit Risk / Default Risk
Estimated Time:45s
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Topics

Non-Systematic and Credit Risks

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