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Suppose that ABSs are created from a 100 million dollar principal portfolio of subprime mortgages with the following allocation of the principal to tranches: senior 75%, mezzanine 15%, and equity 10%
Suppose that ABSs are created from a 100 million dollar principal portfolio of subprime
mortgages with the following allocation of the principal to tranches: senior 75%, mezzanine 15%,
and equity 10%. (The portfolios of subprime mortgages have the same default rates.) An ABS
CDO is then created from the mezzanine tranches with the same allocation of principal.
1. If only 84 million of the 100 million that is promised can be paid out: What are the losses as a percentage
of expected return(0% means they are paid in full and 100% means they lose everything) that the owners
of senior tranche receive?
A. 0% loss
B. 10.0% loss
C. 12.5% loss
D. 20.0%
E. 25.0% loss
F. 33.3% loss
G. 50.% loss
H. 75% loss
I. 100% loss
Expert Solution
Solution
Of the 16 million loss (16%) the first allocation is to be affected is from the equity - 15%
The rest 1% is affected to the mezzanine trenches
Hence senior is not affected at all
0% Loss
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