This is an interest only balloon loan over 24 months at a rate of 8 percent. You see that the borrower still owes the lender $1000000 after 24 months
| |
Begin balance
|
Interest
|
principal
|
end balance
|
|
1
|
1000000
|
6666.667
|
0
|
1000000
|
|
2
|
1000000
|
6666.667
|
0
|
1000000
|
|
3
|
1000000
|
6666.667
|
0
|
1000000
|
|
4
|
1000000
|
6666.667
|
0
|
1000000
|
|
5
|
1000000
|
6666.667
|
0
|
1000000
|
|
6
|
1000000
|
6666.667
|
0
|
1000000
|
|
7
|
1000000
|
6666.667
|
0
|
1000000
|
|
8
|
1000000
|
6666.667
|
0
|
1000000
|
|
9
|
1000000
|
6666.667
|
0
|
1000000
|
|
10
|
1000000
|
6666.667
|
0
|
1000000
|
|
11
|
1000000
|
6666.667
|
0
|
1000000
|
|
12
|
1000000
|
6666.667
|
0
|
1000000
|
|
13
|
1000000
|
6666.667
|
0
|
1000000
|
|
14
|
1000000
|
6666.667
|
0
|
1000000
|
|
15
|
1000000
|
6666.667
|
0
|
1000000
|
|
16
|
1000000
|
6666.667
|
0
|
1000000
|
|
17
|
1000000
|
6666.667
|
0
|
1000000
|
|
18
|
1000000
|
6666.667
|
0
|
1000000
|
|
19
|
1000000
|
6666.667
|
0
|
1000000
|
|
20
|
1000000
|
6666.667
|
0
|
1000000
|
|
21
|
1000000
|
6666.667
|
0
|
1000000
|
|
22
|
1000000
|
6666.667
|
0
|
1000000
|
|
23
|
1000000
|
6666.667
|
0
|
1000000
|
|
24
|
1000000
|
6666.667
|
0
|
1000000
|
You see that the borrower still owes the lender $1000000 after 24 months most construction loans to builders are this type.
Suppose after 24 months, the builder asks extension of this loan for another year. The builder continues to pay monthly interest for the six month, thereafter he skips payment for three months, and then files for chapter 11.
Questions:
1. What is the value of this loan to bank? See average recovery rate.
2. Banks are required to Mark to Market their portfolio of assets to fair market value. How much of the $1,000,000. loan the bank is expected to recover?
To answer the above question, students are expected to look at historical recovery rate published by Moodys' or Fitch rating agencies.
See averge recovery rate:
Recovery Rate:
|
Class
|
Mean (%)
|
Standard Deviation (%)
|
|
Senior Secured
|
52.31%
|
25.15%
|
|
Senior Unsecured
|
48.84%
|
25.01%
|
|
Senior Subordinated
|
39.46%
|
24.59%
|
|
Subordinated
|
33.17%
|
20.78%
|
|
Junior Subordinated
|
19.69%
|
13.85%
|