Subprime Mortgage Credit Derivatives

by Laurie S. Goodman (Ubs, New York, Usa); Shumin Li; Douglas J. Lucas (Ubs, New York, Usa); Thomas A. Zimmerman; Frank J. Fabozzi (School Of Management, Yale Univ.)

• ISBN13: 9780470243664
• ISBN10: 047024366X
• Format: Hardcover
• Copyright: 2008-06-30
• Publisher: Wiley

Summary

Subprime Mortgage Credit Derivatives Cutting-edge strategies for minimizing the risk of mortgage credit derivative portfolios Mortgage credit derivatives are a risky business, especially of late. Written by an expert author team of UBS practitioners-Laurie Goodman, Shumin Li, Douglas Lucas, and Thomas Zimmerman-along with Frank Fabozzi of Yale University, Subprime Mortgage Credit Derivatives covers state-of-the-art instruments and strategies for managing a portfolio of mortgage credits in today's volatile climate. Divided into four parts, this book addresses a variety of important topics, including mortgage credit (non-agency, first and second lien), mortgage securitizations (alternate structures and subprime triggers), credit default swaps on mortgage securities (ABX, cash synthetic relationships, CDO credit default swaps), and much more. In addition, the authors outline the origins of the subprime crisis, showing how during the 2004-2006 period, as housing became less affordable, origination standards were stretched-and when home price appreciation then turned to home price depreciation, defaults and delinquencies rose across the board. The recent growth in subprime lending, along with a number of other industry factors, has made the demand for timely knowledge and solutions greater than ever before, and this guide contains the information financial professionals need to succeed in this challenging field.

Author Biography

Laurie S. Goodman, PhD, is Managing Director and cohead of Global Fixed Income Research at UBS.

SHUMIN LI is Executive Director in the U.S. Securitized Products Strategy Group at UBS.

Douglas J. Lucas is Executive Director and head of CDO research at UBS.

THOMAS A. ZIMMERMAN is Managing Director in the U.S. Securitized Products Strategy Group at UBS.

Frank J. Fabozzi, PhD, CFA, is Professor in the Practice of Finance at Yale University's School of Management and the Editor of the Journal of Portfolio Management.

Table of Contents

Preface	p. xiii
About the Authors	p. xv
Mortgage Credit	p. 1
Overview of the Nonagency Mortgage Market	p. 3
Issuance Volumes	p. 5
Roots of the 2007-2008 Subprime Crisis	p. 5
Defining Characteristics of Nonagency Mortgages	p. 9
Loan Characteristics	p. 9
Risk Layering	p. 18
Agency versus Nonagency Execution	p. 22
Summary	p. 23
First Lien Mortgage Credit	p. 27
Concepts and Measurements of Mortgage Credit	p. 28
Collateral Characteristics and Mortgage Credit: Assault of the Four Cs in 2006 (Credit, Collateral, Capacity, and Character)	p. 35
The End Game: Foreclosure, REO Timeline, and Severity	p. 46
The Role of Unobservable in 2006 Subprime Mortgage Credit	p. 62
Second Lien Mortgage Credit	p. 73
Two Types of Seconds	p. 73
Higher Risks in Seconds	p. 75
Recent Performance	p. 80
Why Higher Losses?	p. 80
Summary	p. 81
Mortgage Securitizations	p. 87
Features of Excess Spread/Overcollateralization: The Principle Subprime Structure	p. 89
Excess Spread-Based Credit Enhancement	p. 90
OC in Alt-A-Land	p. 97
OC Internal Workings	p. 103
Summary	p. 110
Subprime Triggers and Step-Downs	p. 111
The Step-Down and the Trigger	p. 111
BBB Stack (on the Knife's Edge)	p. 116
Effect of Triggers and the Loss Waterline	p. 117
Sampling the Subprime Universe	p. 118
2000-2003 Deal Step-Down Summary	p. 118
Step-Down and Credit Effects	p. 119
Summary	p. 122
Credit Default Swaps on Mortgage Securities	p. 123
Introduction to Credit Default Swap on ABS CDS	p. 125
Corporate CDS Fundamentals and Terminology	p. 125
Differences Between Corporate CDS and ABS CDS	p. 128
Difficulties in ABS CDS	p. 131
ABS CDS Effect on ABS CDO Management	p. 141
Two New Types of ABS CDOs	p. 142
Summary	p. 143
The ABX and TABX Indices	p. 145
Background	p. 145
How a Deal Gets into the Index	p. 146
Index Mechanics	p. 149
Index Pricing Over Time	p. 152
ABX Tranche Trading	p. 156
TABX Pricing	p. 157
TABX versus CDOs	p. 159
Summary	p. 160
Relationship among Cash, ABCDS, and the ABX	p. 161
Fundamental Contractual Differences-Single-Name ABCDS/ABX Index/Cash	p. 162
Supply/Demand Technicals	p. 168
What Keeps the Arbitrage from Going Away?	p. 171
Summary	p. 173
Importance of ABCDS to CDO Managers	p. 173
Credit Default Swaps on CDOs	p. 177
CDO CDS Nomenclature	p. 178
CDO Credit Problems and their Consequences	p. 179
Alternative Interest Cap Options	p. 182
Miscellaneous Terms	p. 185
Cash CDO versus CDO CDS	p. 186
Exiting a CDO CDS	p. 187
Rating Agency Concerns on CDOs that Sell Protection via CDO CDS	p. 188
Summary	p. 189
Loss Projection and Security Valuation	p. 191
Loss Projection for Subprime, Alt-A, and Second Lien Mortgages	p. 193
Two Ways of Projecting Loss	p. 193
Default Timing	p. 194
Steps in Predicting Collatal Losses	p. 195
Pros and Cons of the Default Timing Curve	p. 201
Historical Model Fit versus Actual	p. 201
Default Timing Is Not Equal to Loss Timing	p. 203
An Alternative Specification	p. 203
Alt-A and Closed-End Seconds	p. 206
Summary	p. 209
Valuing the ABX	p. 211
Review of Basic Valuation for ABX Indices	p. 211
Review of Valuation Approaches	p. 212
Econometric Approach	p. 214
ABX Valuation	p. 234
The "Simple" or Do-It-Yourself Approach to ABX Valuation	p. 239
ABX After Subprime Shutdown	p. 254
Summary	p. 259
Results of Original "Base" Pricing (And Number of Bonds Written Down) and the New "Shutdown" Estimates	p. 260
ABS CDO Losses and Valuation	p. 269
The Mortgage Loan-Mortgage Bond-ABS CDO Chain	p. 270
Mortgage Deal Losses	p. 270
Subprime Mortgage Bond Losses	p. 273
Alt-A, Second Lien, and Prime Mortgage Bond Losses	p. 276
Aggregating Mortgage Bond Losses in 2006-7 Mezzanine ABS CDOs	p. 276
Aggregating Mortgage Bond Losses in 2005 Mezzanine ABS CDOs	p. 283
Drivers of CDO Losses and the Role of the Manager	p. 284
ABS CDO Valuation and CDO Structure	p. 288
Summary	p. 291
Subprime Meltdown	p. 293
The Great Subprime Meltdown of 2007	p. 295
An Earlier Subprime Crisis	p. 296
The Virtuous Cycle	p. 299
Early-Pay Defaults: The First Hint Things Were Changing	p. 301
The 2006 Conundrum	p. 303
Banking Regulators: Not Too Little but Too Late	p. 308
Who Will Rescue the Subprime Borrower?	p. 312
Is Securitization the Villain?	p. 312
Lack of Transparency	p. 316
Spillover	p. 317
Future for Subprime	p. 317
Index	p. 319
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