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

A subprime RMBS pool has a 10% expected cumulative loss under a baseline scenario, and the mezzanine tranche attaches at 8% and detaches at 18%. Recovery is already included in the loss figure. If the actual pool cumulative loss turns out to be 14%, what percentage of the mezzanine tranche's principal is lost?

The mezzanine tranche loses 60% of its principal. Pool losses of 14% exceed the 8% attachment point by 6 percentage points, and dividing this by the 10-point tranche width (18% minus 8%) gives 60%.

  1. A40%
  2. B60%Correct
  3. C14%
  4. D75%

Explanation

Tranche loss = (pool loss minus attachment) / tranche width = (14% - 8%) / (18% - 8%) = 6/10 = 60%. Using 40% would incorrectly use the distance to detachment (18-14=4) as loss. Using 14% ignores subordination.

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