How should receivable-backed securities be priced in terms of spread over US Treasury securities? What
are the important pricing determinants? Propose a spread and defend your proposal.
Stress-test this securitization, i.e., check whether payments to investors will occur as planned even if
payments by cardholders worsen along one dimension or another. Rating agencies fol- low exactly this
approach when assigning ratings. Would the securitization cover its scheduled interest payments to
investors if
• the default rate were to go up by 75%;
• the average life of receivables were to go up by 75%;
• the servicing cost were to go up by 75%?
Explain your assumptions and interpret your results. We are not looking for anything computationally
intensive, just a back-of-the-envelope analysis.
Sample Solution