Exposure at DefaultEAD
Exposure at default is the amount a lender expects to be owed at the moment a borrower defaults, including undrawn credit lines that may be used before then. Expected loss is often estimated as probability of default × loss given default × exposure at default.
To estimate a credit loss you need three numbers: how likely default is, how much of the money would be lost, and how much money is at stake when it happens. Exposure at default is that last number. For a plain bond it is simple; for credit lines and derivatives it can grow just before a default, as struggling borrowers draw on every available line. This entry explains the idea and how it fits into expected-loss calculations.
- Category
- Bonds and Interest Rates
- Reading time
- 4 min
- Also called
- Credit exposure, Amount at risk on default
- Updated
Exposure at default in plain words
A default is a failure to pay principal or interest when due.1 Exposure at default is how much is owed at that moment.
For a bond, it is roughly the face value plus accrued interest. For a credit line, it includes the part that may be drawn before default — borrowers in trouble often use every line they have. See Loss Given Default.
How EAD fits into expected loss, step by step
Drawn amount
What is already owed.
Undrawn commitments
How much more the borrower could draw.
Estimate future drawing
Apply a share of the undrawn amount likely to be used before default.
EAD
Drawn + expected additional drawing.
Combine
Expected loss = probability of default × LGD × EAD. See Default Risk.
Compare with returns
Riskier borrowers must pay higher yields.2
Worked examples
Example 1 — A credit line
Credit lineA company has a $10 million credit line, with $4 million drawn. Lenders assume 60% of the undrawn part will be used before any default.
| Undrawn | $6 million |
| EAD | $4m + 60% × $6m = $7.6 million |
Exposure can be much larger than today’s balance.
Example 2 — Expected loss
Expected lossEAD $7.6 million, probability of default 4%, LGD 55%.
| Expected loss | 4% × 55% × $7.6m ≈ $167,200 |
All three inputs matter; underestimating EAD understates the loss.
Example 3 — A simple bond
BondAn investor holds $200,000 face value of a bond with $3,000 of accrued interest.
| EAD | ≈ $203,000 |
For a plain bond, exposure is close to face value plus accrued interest.
The three parts of expected loss
| Aspect | Question | Example |
|---|---|---|
| Probability of default (PD) | How likely is default? | 3% a year |
| Loss given default (LGD) | How much is lost if it happens? | 60% |
| Exposure at default (EAD) | How much is owed then? | $1 million |
| Expected loss | PD × LGD × EAD | $18,000 |
Where EAD is used
Bank lending
Setting limits and capital for loans and credit lines.
Derivatives
Estimating how much a trading partner could owe. See Counterparty Risk.
Bond portfolios
Measuring credit exposure by issuer.
Stress tests
Exposure often grows in downturns. See Recession.
Advantages and disadvantages
Advantages
- Completes the expected-loss calculation.
- Captures risk from undrawn credit lines.
- Works across loans, bonds and derivatives.
Disadvantages
- Future drawings are estimates.
- Derivative exposures change with market prices.
- Exposure tends to rise just before defaults.
Going deeper
Read as far as you need. Each level builds on the one before it.
Exposure is what is at stake
Beginner
Probability and loss rates mean little without knowing how much money is involved.
Drawdown before default
Intermediate
Borrowers heading towards trouble often draw their credit lines fully, so exposure at default is usually higher than average balances suggest.
Derivative exposure
Advanced
For derivatives, exposure depends on how much a contract is worth to you when the other side fails, which changes with market prices. Collateral reduces it.
Common mistakes
Using current balances only
Include likely future drawings.
Ignoring accrued interest
It adds to what is owed.
Treating EAD as fixed
It changes with drawings and prices.
Ignoring collateral
It can reduce effective exposure.
Check your understanding
Test yourself before moving on. Each answer comes with an explanation.
Key points to remember
- EAD is the amount owed when a borrower defaults.
- Credit lines can raise EAD before default.
- Expected loss = PD × LGD × EAD.
- For plain bonds, EAD ≈ face value plus accrued interest.
- Derivative exposure changes with market prices.
Frequently asked questions
Why can EAD be larger than the current loan balance?
Is EAD used by individual investors?
How does collateral affect EAD?
Further learning
- Loss Given Default
The second part of expected loss.
- Default Risk
The first part: probability of default.
- Counterparty Risk
Exposure to trading partners.
- Credit Spread
How lenders are paid for credit risk.
Sources
This article is written in our own words. The sources below support the specific facts, rules and figures marked with a number in the text. Links open the original publisher’s page.
- Investor.gov (SEC). Default (glossary) (opens in a new tab) Checked .
- Investor.gov (SEC). High-Yield Bond or Junk Bond (glossary) (opens in a new tab) Checked .
Educational content, not financial advice. Examples use hypothetical prices and simplified costs; actual fees, margin rules and regulations vary by broker, market and country. We are not affiliated with any publisher linked above. Last reviewed . Report an error or request a source credit.