Suppose That ABSs Are Created from Portfolios of Subprime Mortgages

question 4

Multiple Choice

Suppose that ABSs are created from portfolios of subprime mortgages with the following allocation of the principal to tranches: senior 85%,mezzanine 10%,and equity 5%.(The portfolios of subprime mortgages have the same default rates.) An ABS CDO is then created from the mezzanine tranches with the same allocation of principal.How high can losses on the mortgages be before the senior tranche of the ABS CDO bears losses?

• A) 5.5%
• B) 6.0%
• C) 6.5%
• D) 7.0%

---

Definitions:

Underapplied

A situation where the actual manufacturing overhead costs are more than what was allocated to products.

Predetermined Overhead Rate

A calculated rate that estimates the manufacturing overhead cost per unit of production, based on expected or historical data.

Machine-Hours

A measure of the amount of time a machine is operated during a given period, commonly used in manufacturing to allocate costs or to measure productivity.

Manufacturing Overhead Costs

All indirect costs associated with the manufacturing process, including utilities, rent, and salaries for non-direct labor.