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Sem 5 Prep
← Money & BankingMortgages, securitisation and the credit crisis

Formulas for this chapter

Loan-to-value ratio

LTV = Loan amount / Property value x 100 Loan = LTV x Property value Borrower's margin = Property value - Loan

Any mortgage sizing question. The LTV cap decides the loan; the remainder is the borrower's own contribution.

Loan amount
Sanctioned principal
Property value
Value of the collateral as assessed by the lender

Origination fee

Fee = fee rate x Loan amount

Whenever an origination fee is quoted. It applies to the loan, not to the property value.

fee rate
Quoted origination fee, usually a fraction of a per cent
Loan amount
Sanctioned principal, after the LTV cap

Tranche loss waterfall

Loss to a tranche = min(remaining loss, tranche size) Remaining loss passes up to the next tranche Senior tranche is safe until loss > total subordination

Allocating losses in a securitisation or CDO. Always work from the bottom slice upward, and compute total subordination to find the senior tranche's cushion.

tranche size
Face value of that slice of the securities
subordination
Total size of all slices below the one you are pricing

Leverage and the wipe-out point

Leverage L = Assets / Equity Critical asset fall = 1 / L Remaining equity = Equity - (fall % x Assets)

Any leveraged vehicle: an SIV, a margin position, a bank. At 10 to 15 times leverage a fall of 6.7% to 10% erases the equity.

Assets
Market value of what the vehicle holds
Equity
Own funds, the residual after debt

TED spread

TED spread = Interbank rate - Treasury bill yield (same tenor) 1 percentage point = 100 basis points

To measure credit risk in the banking system. Read both legs: a widening spread usually means interbank rates rising and bill yields falling as money runs to safety.

Interbank rate
Rate at which banks lend to each other, at the chosen tenor
Treasury bill yield
Government bill yield at the same tenor
Step 4 of 24
The real wordsTheory

Two segments, one mature and one not

Primary mortgage marketHousing loans issued directly to customers by banks, HFCs and NBFCs. The professor's word for it: mature.
Secondary mortgage marketPackaged loans sold to investors through the securitisation process, for example mortgage-backed securities. His word for it: under-developed.

That asymmetry is the whole Indian story. India originates housing loans well and distributes them badly, so the risk stays on bank and HFC balance sheets.

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