medium · Asset-Backed Securities
A sponsor holds a 5% horizontal residual interest. If the deal experiences severe losses that wipe out 2% of the pool principal, what happens to the sponsor's retention?
- The risk retention requirement is waived because the pool is now in distress.
- The loss is shared pro-rata between the sponsor and the AAA bondholders.
- The sponsor must immediately write a check to the trust to restore the retention to 5%.
- The fair value of the sponsor's interest decreases as it absorbs the first 2% of losses.
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