hard · Asset-Backed Securities tranching
An analyst is comparing two RMBS tranches. Tranche X is a sequential-pay AAA with 20% subordination. Tranche Y is a pro-rata AAA with 20% subordination.
In a severe housing downturn where losses are front-loaded, which statement best describes the relative risk profile?
- Tranche X is safer because its subordination percentage grows as it amortizes first.
- Tranche Y is safer because pro-rata structures are only allowed for the highest quality pools.
- Both are equally safe as they both possess 20% initial subordination.
- Tranche Y is safer because it returns principal to all holders simultaneously, reducing duration.
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