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What is the cumulative probability of repayment

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Century21 Bank has made a one-year loan to Joker, a firm that manufactures baseball bats. The estimated probability of default of this loan is 8%. The bank has also made a two-year loan to Joker that provides a return of 10.5% per annum if the loan is not defaulted. And the bank will lose all the claims on principal and interests upon loan default. The yield is 2% per annum for the 1-year maturity government bond. Based on the prices of 1-year and 2-year maturity government bond prices, the forward rate for the 2nd year is 4% per annum.

What is the cumulative probability of repayment (i.e. not default) of Joker over the two years?

Reference no: EM133000896

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