Please answer all questions, if only 4 subs, please b) c) d) e)

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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: Amount in million Bond Rating Aa1 Aa2 A1 A2 Baa1 Baa2 Baa3 Ba1 $ 30 $ 20 $ 10 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 Allocation in % Risk weights for CAR (APRA APS 120) 20% 20% 20% 20% 50% 50% 50% 100% 100% 100% 350% 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. Assets Liabilities and equity Cash $10 Demand deposits $90 Quick Money Aaa tranche $15 Equity $10 Quick Money Ba1 tranche $5 Loans (risk weight 100%) $70 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. 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. 1 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: Bond Amount in million Risk weights RWA in Sm for the Rating for CAR bank buying the (APRA APS whole tranche 120) $ 30 20% Aa1 $ 20 20% Aa2 $ 10 20% Aa3 $ 5 20% A1 $ 5 50% A2 $ 5 50% A3 $ 5 50% Baa1 $ 5 100% Baa2 $ 5 100% Baa3 $ 5 100% Ba1 $ 5 350% 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. QUESTION: TRANCHES Assume that $100 million face value of MBS were used to create the following tranches issued by Quick Money SPV: Amount in million Bond Rating Aa1 Aa2 A1 A2 Baa1 Baa2 Baa3 Ba1 $ 30 $ 20 $ 10 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 $ 5 Allocation in % Risk weights for CAR (APRA APS 120) 20% 20% 20% 20% 50% 50% 50% 100% 100% 100% 350% 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. Assets Liabilities and equity Cash $10 Demand deposits $90 Quick Money Aaa tranche $15 Equity $10 Quick Money Ba1 tranche $5 Loans (risk weight 100%) $70 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. 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. 1 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: Bond Amount in million Risk weights RWA in Sm for the Rating for CAR bank buying the (APRA APS whole tranche 120) $ 30 20% Aa1 $ 20 20% Aa2 $ 10 20% Aa3 $ 5 20% A1 $ 5 50% A2 $ 5 50% A3 $ 5 50% Baa1 $ 5 100% Baa2 $ 5 100% Baa3 $ 5 100% Ba1 $ 5 350% 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