FRM Part I · FRM Exam Part I · Credit Risk Transfer Mechanisms
Which regulatory response was designed specifically to address the misaligned incentives revealed by the securitization market in the crisis?
Risk-retention requirements, under which securitizers keep a portion of the credit risk of securitized assets, were the response aimed at misaligned incentives. Keeping skin in the game encourages originators to maintain sound underwriting rather than passing weak loans on to investors.
- AA requirement that securitizers retain a portion of the credit risk of the assets they securitizeCorrect
- BA ban on all credit default swap trading between banks
- CA cap on the interest rate banks may charge on securitized loans
- DA requirement that rating agencies be paid only after a security matures
Explanation
Risk-retention rules require originators or sponsors to keep a meaningful share of the credit risk, restoring skin in the game and reducing moral hazard. The other measures were not the standard response to the originate-to-distribute incentive problem.
Did you get it right without looking?
One question tells you little. A timed set on Credit Risk Transfer Mechanisms shows your real accuracy, how long you take and where you lose marks.
More Credit Risk Transfer Mechanisms questions
- A bank buys credit protection on a corporate borrower from a counterparty whose default is highly likely to occur at the same time as the bo…
- A bank holds a USD 100 million loan portfolio. It buys a first-loss credit-linked note arrangement covering the first USD 5 million of losse…
- A bank holds a portfolio of corporate loans and wants to reduce its exposure to credit losses without notifying borrowers or transferring le…
- Under the originate-to-distribute model, a bank originates loans and sells them to securitization vehicles. Which of the following is the mo…
- A bond yields 6.0% and a risk-free rate for the same maturity is 3.5%. The 5-year CDS spread on the issuer is 2.0%. Using the CDS-bond basis…
- A securitization has a $500 million asset pool financed by an equity tranche of $25 million (first loss), a mezzanine tranche of $75 million…