medium · Corporate Credit Analysis distressed
In an ABS structure, if the 'Overcollateralization' (OC) test fails, what is the most common consequence in the cash flow waterfall?
- The interest rates on all senior and subordinate tranches are increased to compensate for the pool's risk.
- The residual equity holder receives an accelerated 'catch-up' distribution to preserve their percentage ownership.
- The originator, under the servicing agreement, must immediately repurchase every delinquent loan remaining in the pool.
- Excess spread is diverted to pay down the principal of the most senior tranches until the OC ratio is restored.
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