What does Expected Exposure (EE) signify in risk management?

Expected Exposure (EE) is a concept in risk management that quantifies the amount of credit exposure that a lender or investor might face in the event of a counterparty default. It represents the average potential loss that could arise due to a counterparty's failure to meet its financial obligations over a specified time horizon.

This measure focuses on estimating the average cash outflow that would result if the counterparty defaults, taking into account the variations in exposure over time as market conditions and the profile of the transaction evolve. Essentially, EE reflects the expected future positive exposure at a given confidence level, considering the current market value of the transaction and its potential changes due to price fluctuations.

Although other options touch on aspects of risk management, they do not represent the average potential exposure to loss due to counterparty defaults as clearly as the correct choice does. For example, while potential future loss in a financial transaction could imply a similar risk management concern, it lacks the specificity of EE, which focuses on quantitative measures related to exposures. Current exposure is related but does not take into account the time-based average expectation. Lastly, collateral requirements are determined by a variety of factors, including but not limited to the expected exposure. Overall, the correct answer captures the nuanced understanding of how potential