Suppose that ABSs are created from portfolios of subprime mortgages with the following allocation of the principal to tranches: senior 94.5% (rated AAA),mezzanine 0.1% (rated BBB),and equity 5% (rated C).The portfolios of subprime mortgages have the same default rates.An ABS CDO is then created from the mezzanine tranches.Which of the following is true?
A) The ABS CDO tranches should have ratings ranging from AAA to C
B) The ABS CDO tranches should all be rated BBB
C) The ABS CDO tranches should all be rated C
D) The ABS CDO tranches are almost worthless because the mezzanine tranches are so thin

Question

Quizplus · Accepted Answer

Because they are so thin,the mezzanine tranches of the ABS are either all safe or all wiped out.The tranches created from them are therefore essentially the same.

Suppose That ABSs Are Created from Portfolios of Subprime Mortgages