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

A securitisation pool of USD 500 million of loans is tranched as follows: equity tranche USD 25 million, mezzanine USD 75 million, senior USD 400 million. Pool losses total USD 60 million. Under a simple sequential loss allocation, what is the loss borne by the mezzanine tranche and its percentage loss?

The mezzanine tranche loses USD 35 million, or 46.7% of its USD 75 million size. The equity tranche absorbs the first USD 25 million of the USD 60 million loss, and the remaining USD 35 million falls on the mezzanine before reaching the senior tranche.

  1. AUSD 35 million; 46.7% of the trancheCorrect
  2. BUSD 60 million; 80.0% of the tranche
  3. CUSD 25 million; 33.3% of the tranche
  4. DUSD 35 million; 7.0% of the tranche

Explanation

The equity tranche absorbs the first USD 25 million. The remaining USD 35 million hits the mezzanine: 35/75 = 46.7%. Option with 7.0% divides by the pool size (35/500), the wrong base.

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