Exposure at Default

Overview

Exposure at default is the value of the asset when it defaults. This is required because default models are usually designed to model a certain time frame. For example, a default model may model the default of an asset over the next year. Given the time frame involved, the value of the asset will have changed from the point in time that the model was run, and the date of assumed default.

Fixed Value

One way to model EAD is to assume that the EAD is the value of the asset at the beginning of the period. That is, if the time frame is short, or the amount that the asset can chnage over the time frame is small, it typically does not hurt a model to just assign it the value at the beginning.

Current Value minus Payments

An alternate route to using the fixed beginning value of an asset is to take the beginning value of the asset and then to adjust it for likely payments that will have occurred during the time frame. If the asset is a loan with fixed payments, the pyaments will be known in advance (except for prepayments, which are unlikely in an asset that is about to default). However, the exact time of default will be unknown, so the payments are still random to a degree.