# Time to see how well you know your Tranches

3 tranches Tranche-------OAS(bps)-------Z-spread(bps)------effective duration 1------------------68-----------------85--------------------2.60 2------------------71-----------------91--------------------2.90 3------------------73----------------136-------------------8.25 Is Tranche 3 relatively more expensive than: Tranche 1? Tranche 2? A. Yes Yes B. No Yes C. Yes No D. No No Edited b/c it did not format properly

Subject line says it’s a trick question. But I will still go with the A? Am I missing the obvious?

A, because the option cost is much higher for Tranche 3. granted the z spread is higher, but that could be a function of the duration. It is the option cost that shows the expensiveness (if that is a word), IMO.

i go for D

A is my choice.too low an OAS for such a large change in duration.

Similar OAS + Large option cost + loads of extra duration => A

like A here. normally you want biggest OAS but i like chrismath’s logic above. similar enough OAS, bigtime option cost and a ton more duration.

A -

I’m going A also, based on option cost and duration.

im going with D, its hard to say just cause something has a longer duration that it should be cheaper/richer in this instance. OAS is supposed to be an adjusted relative value method so you shouldnt have to do further adjustments

We always want high OAS, right?

the answer is A tranche 1 and 2 have lower option cost and lower duration. even if the durations matched up, tranche 3 would still be overvalued.

Is the answer given? I feel we are missing some info here. It is unclear what they want to ask. If assume the bond price are same, then we should buy tranche 3, since it is cheaper. If they are asking how should we price tranche 3. Trance 3 should be more expensive since it offer more OAS, duration etc.

I like D)

Gotta be A. The option costs much more for tranche 3 while all three tranches have an OAS that are relatively the same.

mike0021 Wrote: ------------------------------------------------------- > im going with D, its hard to say just cause > something has a longer duration that it should be > cheaper/richer in this instance. OAS is supposed > to be an adjusted relative value method so you > shouldnt have to do further adjustments Cfai text clearly outlines a relationship between duration and oas. Specifically OAS should be higher for longer duration.

btw, that makes me A.

the answer is A because of the duration effect. I had fallen for the same trap and picked D. But I do not understand why its A instead of D because I always thought that you always wanted the highest OAS. Can someone explain it in a little detail please.

The option costs for each tranche are: 17 20 65 The option for tranche 3 is 3x more expensive than tranche 2. Tranche 3’s OAS is only 2 bps higher yet costs 45 bps more.