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How did the rating agencies come up with their AAA ratings on CDOs comprised of mostly subprime debt? They used historical models aka trends that basically assu
by bsdpython 12y ago
How did the rating agencies come up with their AAA ratings on CDOs comprised of mostly subprime debt? They used historical models aka trends that basically assumed that housing prices never went down on a national basis. Throw a bunch of subprime MBS from different regions together into a CDO and bam our model spits out a AAA rating. It was based on a historical model aka trend. I don't dispute any of your other details.
- murbard2 12y agoActually no, that assumption did not go in the pricing models. The key assumption that people got wrong, was the correlation between the risk of default of different borrowers. A single value was used for the middle of the distribution and for the tails, even though the correlation was actually much higher in the tails.