FRM Part II · FRM Exam Part II · An Introduction to Securitisation
A pool of USD 800 million is tranched into a senior class of USD 640 million, a mezzanine class of USD 120 million and an equity class of USD 40 million. A risk manager wants to compute the credit enhancement available to the senior tranche from subordination alone. Which value is correct?
Senior credit enhancement from subordination is 20.0%. The mezzanine and equity tranches together total USD 160 million, and dividing by the USD 800 million pool gives 20%. Pool losses must exceed this amount before the senior tranche suffers any loss.
- A5.0%
- B20.0%Correct
- C15.0%
- D80.0%
Explanation
Subordination beneath the senior tranche equals mezzanine plus equity = 120 + 40 = USD 160 million. Divided by the pool of USD 800 million this is 20.0%. The figure 5.0% counts only equity, and 15.0% counts only mezzanine, each omitting a junior layer.
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