Consider the following hypothetical transition matrix: Which of the following statements is true?

Question

Consider the following hypothetical transition matrix:    Which of the following statements is true?

Quizplus · Accepted Answer

According to the transition matrix, a borrower with a risk grade of 2 at the beginning of the year has a 3% probability of being downgraded to a risk grade of 3. This can be confirmed by looking at the transition probability from state 2 to state 3, which is 0.03 (3%).

Option B is incorrect because it states that a borrower with a risk grade of 3 has a 0.04% probability of being upgraded to a risk grade of 1, which is not represented in the transition matrix.

Option C is incorrect because it states that a borrower with a risk grade of 2 at the beginning of the year has a 12% probability of being downgraded to a risk grade of 1, which is not represented in the transition matrix.

Option D is incorrect because it states that a borrower with a risk grade of 2 at the beginning of the year has an 85% probability of being upgraded to a risk grade of 1, which is not represented in the transition matrix.

Consider the Following Hypothetical Transition Matrix: Which