Tip: erase the last 9 months of credit issues from your mind: Taylor explains to Johnson that there are major differences between ABS and corporate bonds in terms of credit risk. Which of the following is a major difference? ABS have: A) complete predictability of cash flows and no operational risk. B) the same predictability of cash flows but a lower operational risk. C) a greater predictability of cash flows due to the absence of operational risk. D) a smaller predictability of cash flows due to the higher operational risk.
Then I’m going for C!
c for me
Why ABS has greater predictability of cash flows as they are not guaranteed by Govt agencies? They do have prepayment risk.
I don’t like any of those answers!! I would think they have a lower predictability of cash flows due to possible pre-payments, etc, but do not have operational risk, just the risk that the underlying loans will pay.
What’s this no operational risk in ABS thing? Set up all these tranches, SPV’s, cash going everywhere sounds like operational risk to me.
I was thinking operational risk is the sense that the underlying business risk of the company that sold the loans is not a risk to an ABS holder right JDV? I don’t think in this context they are referring to the operational risk in setting up the SPV and traunching etc…
I know the servicing has operational risk My tought was though that in theory the cash flows from a company should be less predictable than those of an asset based security because of the fact that abs have less operational risk. in a perfect world might be wrong
Guess we have to take them as they come. In theory, at inception of the ABS and given certain assumptions, cash flows should be more predictable than those from a corporate bond, which could be junk while the ABS is AAA (haha). Prepayments affect cash flows and average life during the life of the ABS and probably become more important then. At inception, you use assumptions. We of course have seen that all this is not necessarily true. That’s what the tip was about I think, thank you for that.
I was thinking less operational risk due to diversification too
D? my reasoning here is that not only do you have to deal with the ppl in pool making payments, you also have to deal with the issuer and/or the servicer which would increase operational risk. And the answer is…?
It a stupid question, and the answer apparently is C! It was probably an ABS from Japan…
Bond yield curve question anyone? A yield curve undergoes a parallel shift. With respect to the bonds described by the yield curve, the shift has least likely changed the: A) durations. B) yield spreads for bonds of different maturities. C) current yields. D) yield to maturities.
C, if it’s parallel yield spreads across maturities should not change?
Probably the way to look at it, is that with a Pay through structure such as it an ABS, there is potentially credit risk both from the SPV issuing it and the original borrowers. In terms of the SPV issuer (the context here), it’s mundane, bog-standard cash in, cash out as agreed therefore more predictability of cash flows from the perspective of SPV alone, not considering the loans which make up the ABS if you see what I mean.
A duration for the second question?
Gotta go with C for a parallel shift.