Suppose the default probability of a firm, conditional on it not having defaulted so far, is 0.10 per year. What is the 5-year survival probability of the firm?
A) 49%
B) 51%
C) 59%
D) 61%

Question

Quizplus · Accepted Answer

The 5-year survival probability is calculated as the probability of not defaulting each year, raised to the power of 5. Since the default probability is 0.10, the survival probability each year is 1 - 0.10 = 0.90. Therefore, over 5 years, the survival probability is $0.90^5 = 0.59049$ or approximately 59%.

Suppose the Default Probability of a Firm, Conditional on It