CFA Level I · CFA Level I Exam · Mortgage-Backed Security (MBS) Instrument and Market Features
In a typical CMBS, the investor who bears the first losses from defaults in the loan pool is most likely the holder of the:
The most junior, non-investment-grade tranche bears first losses. CMBS use a senior-subordinated structure in which subordinate classes absorb credit losses before senior classes, so the junior holder earns higher yield as compensation for the greater default risk.
- Asenior tranche with the highest rating
- Bmost junior non-investment-grade trancheCorrect
- Cinterest-only tranche with the highest coupon
Explanation
CMBS use credit tranching with a senior/subordinated structure: losses are absorbed first by the lowest-rated, most junior tranche, which offers the highest yield for this risk. Senior tranches are protected by subordination.
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