Resource title

Default risk sharing between banks and markets: the contribution of collateralized debt obligations

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Resource description

This paper contributes to the economics of financial institutions risk management by exploring how loan securitization a.ects their default risk, their systematic risk, and their stock prices. In a typical CDO transaction a bank retains through a first loss piece a very high proportion of the expected default losses, and transfers only the extreme losses to other market participants. The size of the first loss piece is largely driven by the average default probability of the securitized assets. If the bank sells loans in a true sale transaction, it may use the proceeds to to expand its loan business, thereby incurring more systematic risk. We find an increase of the banks betas, but no significant stock price e.ect around the announcement of a CDO issue. Our results suggest a role for supervisory requirements in stabilizing the financial system, related to transparency of tranche allocation, and to regulatory treatment of senior tranches.

Resource author

G√ľnter Franke, Jan Pieter Krahnen

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Resource publish date

Resource language

eng

Resource content type

text/html

Resource resource URL

http://hdl.handle.net/10419/25417

Resource license

Adapt according to the presented license agreement and reference the original author.