Suppose that ABSs are created from portfolios of subprime mortgages with the following allocation of the principal to tranches: senior 80%,mezzanine 10%,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.Losses on the mortgage portfolio prove to be 16%.
-What,as a percent of tranche principal,are losses on the mezzanine tranche of the ABS
A)50%
B)60%
C)80%
D)100%

Question

Quizplus · Accepted Answer

10% out of the 16% loss is absorbed by the equity tranche.The remaining 6% is absorbed by the mezzanine tranche.The total size of the mezzanine tranche is 10%.It is therefore 60% wiped out.

Suppose That ABSs Are Created from Portfolios of Subprime Mortgages