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QUESTION: TRANCHES Assume that $100 million face value of MBS were used to create the following tranches issued by Quick Money SPV: Allocation in %

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QUESTION: TRANCHES Assume that $100 million face value of MBS were used to create the following tranches issued by "Quick Money" SPV: Allocation in % Risk weights for CAR (APRA APS 120) 20% 20% 20% Amount in million Bond Rating Aaa Aa1 Aa2 $ 30 $ 20 $ 10 $5 $5 20% 50% 50% Aa3 A1 A2 50% 100% 100% 100% 350% $ 5 $ 5 $5 $ 5 $ 5 Baa1 Baa2 Baa3 Ba1 a) BIG Bank invested in the Quick Money Aaa and Ba1 tranch (see balance sheet. Calculate its risk weighted assets and evaluate if its capital buffer was consistent with a 10 percent minimum capital adequacy ratio at the time of the initial purchase. Liabilities and equity $90 Assets Cash $10 Demand deposits $15 Equity $5 $70 $10 Quick Money Aaa tranche Quick Money Ba1 tranche Loans (risk weight 100%) b) Show the changes in Small Banks" balance sheet once 15 percent of the Quick Money loan pool is written off. Check the impact upon the tranches and explain what problem Small Bank faces. c) Assume Big Bank would have invested $20 directly in subprime mortgage instead of the tranches. Explain if this would have been better or worse for Big Bank. 8N55n555 c) Assume Big Bank would have invested $20 directly in subprime mortgage instead of the tranches. Explain if this would have been better or worse for Big Bank. d) Big Bank gets an offer to swap all its loans against Quick Money A3 tranches one dollar for one dollar. Explain why this might be an attractive offer from a Capital Management point of view. e) Recall that loans have a regulatory risk weight of 100%. Imagine the "Clever Bank" has $100m loans, which it could sell to its own SPV Quick Money. Quick Money can structure the cash flows from the $100m loans to create the following tranches: Amount in million Risk weights for CAR (APRA APS 120) 20% 20% RWA in $m for the bank buying the whole tranche Bond Rating $ 30 $ 20 $ 10 $5 $ 5 Aaa Aa1 Aa2 20% 20% 50% 50% 50% 100% 100% 100% 350% A1 A2 Baa1 Baa2 Baa3 Ba1 Total Comment if it is worth for Clever Bank to sell its loans to Quick Money and then buy all tranches that Quick Money created. $ 5 $ 5 $ 5 $ 5 $ 5 n5555555 a. The risk weighted assets of BIG Bank are s (no rounding). Therefore its capital ratio is more (moreless) than 10. b if 15 percent of Subprime Quick Money loan pool is written off, the value of BIG Bank AAA tranche holding will be S and its Bat tranche holding will be valued at $ Is this still 10 of its RWA? Big Bank's Equity will change to $ Cf Big Bank would have invested 520 directly into MBS (the same type of loans as Quick Money) and 15% of the underlying loans would have defauited, the loss for Big Bank would have been This would have been exactly $ (better / worsej than the investment in the tranches. d Continue with your balance sheet from b) after the losses. If Big Bank would swap all its loans against Quick Money A3 tranches, its RWA would change to $ (no rounding). Check if Big Bank is now achieving its minimum CAR of 10 again. e. if Clever Bank keeps all its loans on its balance sheet. its RWA would be exactly $ m. However, if it does the deal with Quick Money its RWA would be s ladvantage/disadvantage) for a capital management point of view. Did the actual riskiness of the assets change? m. This is an QUESTION: TRANCHES Assume that $100 million face value of MBS were used to create the following tranches issued by "Quick Money" SPV: Allocation in % Risk weights for CAR (APRA APS 120) 20% 20% 20% Amount in million Bond Rating Aaa Aa1 Aa2 $ 30 $ 20 $ 10 $5 $5 20% 50% 50% Aa3 A1 A2 50% 100% 100% 100% 350% $ 5 $ 5 $5 $ 5 $ 5 Baa1 Baa2 Baa3 Ba1 a) BIG Bank invested in the Quick Money Aaa and Ba1 tranch (see balance sheet. Calculate its risk weighted assets and evaluate if its capital buffer was consistent with a 10 percent minimum capital adequacy ratio at the time of the initial purchase. Liabilities and equity $90 Assets Cash $10 Demand deposits $15 Equity $5 $70 $10 Quick Money Aaa tranche Quick Money Ba1 tranche Loans (risk weight 100%) b) Show the changes in Small Banks" balance sheet once 15 percent of the Quick Money loan pool is written off. Check the impact upon the tranches and explain what problem Small Bank faces. c) Assume Big Bank would have invested $20 directly in subprime mortgage instead of the tranches. Explain if this would have been better or worse for Big Bank. 8N55n555 c) Assume Big Bank would have invested $20 directly in subprime mortgage instead of the tranches. Explain if this would have been better or worse for Big Bank. d) Big Bank gets an offer to swap all its loans against Quick Money A3 tranches one dollar for one dollar. Explain why this might be an attractive offer from a Capital Management point of view. e) Recall that loans have a regulatory risk weight of 100%. Imagine the "Clever Bank" has $100m loans, which it could sell to its own SPV Quick Money. Quick Money can structure the cash flows from the $100m loans to create the following tranches: Amount in million Risk weights for CAR (APRA APS 120) 20% 20% RWA in $m for the bank buying the whole tranche Bond Rating $ 30 $ 20 $ 10 $5 $ 5 Aaa Aa1 Aa2 20% 20% 50% 50% 50% 100% 100% 100% 350% A1 A2 Baa1 Baa2 Baa3 Ba1 Total Comment if it is worth for Clever Bank to sell its loans to Quick Money and then buy all tranches that Quick Money created. $ 5 $ 5 $ 5 $ 5 $ 5 n5555555 a. The risk weighted assets of BIG Bank are s (no rounding). Therefore its capital ratio is more (moreless) than 10. b if 15 percent of Subprime Quick Money loan pool is written off, the value of BIG Bank AAA tranche holding will be S and its Bat tranche holding will be valued at $ Is this still 10 of its RWA? Big Bank's Equity will change to $ Cf Big Bank would have invested 520 directly into MBS (the same type of loans as Quick Money) and 15% of the underlying loans would have defauited, the loss for Big Bank would have been This would have been exactly $ (better / worsej than the investment in the tranches. d Continue with your balance sheet from b) after the losses. If Big Bank would swap all its loans against Quick Money A3 tranches, its RWA would change to $ (no rounding). Check if Big Bank is now achieving its minimum CAR of 10 again. e. if Clever Bank keeps all its loans on its balance sheet. its RWA would be exactly $ m. However, if it does the deal with Quick Money its RWA would be s ladvantage/disadvantage) for a capital management point of view. Did the actual riskiness of the assets change? m. This is an

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