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FRM Part I · FRM Exam Part I · Anatomy of the Great Financial Crisis of 2007-2009

A conduit holds USD 400 million of long-term assets financed by USD 380 million of ABCP rolled every 30 days plus USD 20 million of equity. A liquidity backstop line from a sponsor bank covers 60% of the ABCP. In a run, investors refuse to roll 100% of the ABCP and the assets can only be sold at a 5% discount. Assuming the backstop is fully drawn and all remaining need is met by asset sales, what is the minimum face value of assets that must be sold, and what is the equity position after the sales?

The backstop funds USD 228 million of the USD 380 million ABCP, leaving USD 152 million. Selling at a 5% discount requires 152/0.95 = USD 160 million of face value. The USD 8 million discount loss reduces equity from USD 20 million to USD 12 million.

  1. ASell USD 152.0 million of face value; equity falls to USD 12.0 million
  2. BSell USD 160.0 million of face value; equity falls to USD 12.0 millionCorrect
  3. CSell USD 152.0 million of face value; equity falls to USD 20.0 million
  4. DSell USD 160.0 million of face value; equity stays at USD 20.0 million

Explanation

Backstop covers 0.6 x 380 = 228; the remaining cash need is 152. Sales at 95 cents per dollar need 152/0.95 = 160 face value. The discount loss is 160 x 0.05 = 8, so equity falls from 20 to 12. Option with 152 ignores the discount, and the unchanged equity ignores the realized loss.

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