Skip to content

FRM Part II · FRM Exam Part II · An Introduction to Securitisation

A securitisation has a pool balance of USD 1,000 million. The annual weighted-average pool coupon is 7.0%, the weighted-average note coupon plus servicing fees is 5.5%. Assuming the pool balance is unchanged for the year and no losses occur before this calculation, what is the annual excess spread in USD, and what is its role as credit enhancement?

Excess spread is USD 15 million, being the 1.5% gap between pool coupon and note coupon plus fees on USD 1,000 million. It acts as first-line credit enhancement because it can absorb losses before principal of the subordinated tranches is written down.

  1. AUSD 70 million, which is paid to senior noteholders as extra principal only
  2. BUSD 15 million, which can absorb first losses before the subordinated tranches are hitCorrect
  3. CUSD 55 million, which is held as a cash reserve and not available for losses
  4. DUSD 15 million, which is only available after equity is fully written off

Explanation

Excess spread = (7.0% - 5.5%) x 1,000 = USD 15 million. It is a form of first-line credit enhancement because it can cover current-period losses before they erode the subordinated tranches or equity. The other options either use the wrong amount or misstate the order in which it is used.

Did you get it right without looking?

One question tells you little. A timed set on An Introduction to Securitisation shows your real accuracy, how long you take and where you lose marks.

Practise An Introduction to SecuritisationFree diagnostic mock

More An Introduction to Securitisation questions