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FRM Part II · FRM Exam Part II · Structured Credit Risk

A bank transfers a pool of auto loans to a bankruptcy-remote special purpose vehicle (SPV), which funds the purchase by issuing tranched notes. What is the primary purpose of making the SPV bankruptcy-remote?

The SPV is made bankruptcy-remote so that, after a true sale, the pooled assets cannot be claimed by the originator's creditors if the originator fails. Investors therefore rely on the collateral's performance and the structure, not the originator's credit quality, when the notes are rated.

  1. ATo ensure the pool's cash flows are protected from claims on the originator's insolvency, so that note ratings depend on the pool rather than the originatorCorrect
  2. BTo guarantee that the equity tranche receives a fixed coupon regardless of pool performance
  3. CTo remove all credit risk from the notes so that they can be rated AAA
  4. DTo allow the originator to keep the pool on its balance sheet at a lower capital charge

Explanation

A true sale to a bankruptcy-remote SPV isolates the assets from the originator's creditors. Investors then bear the risk of the collateral and structure rather than the originator's default risk. The SPV does not eliminate credit risk or guarantee equity returns.

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