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After completing this reading, you should be able to:
- Explain the capital adequacy, asset quality, management, earnings, and liquidity (CAMEL) system used for evaluating the financial condition of a bank.
- Describe quantitative measurements and factors of credit risk, including probability of default, loss given default, exposure at default, expected loss, and time horizon.
- Estimate capital adequacy ratio of a financial institution.
- Describe the judgmental approaches, empirical models, and financial models to predict default.
- Apply the Merton model to calculate default probability and the distance to default and describe the limitations of using the Merton model.
- Compare and contrast different approaches to credit risk modeling, such as those related to the Merton model, Credit Risk Plus (CreditRisk+), CreditMetrics, and the Moody’s-KMV model.
- Apply risk-adjusted return on capital (RAROC) to measure the performance.

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