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Credit Risk Transfer, Informed Markets, and Securitization

Working paper #820
Susan M. Wachter

Mortgage backed securities (MBS) funded the US housing bubble, while the bust resulted in
systemic risk and the Global Financial Crisis. The pricing of MBS and the ABX securitization
index failed to reveal growing credit risk. This paper draws lessons from this failure for the use
of Credit Risk Transfers (CRT) to price credit risk. The central question is would the CRT
market, as constituted today, have behaved differently than financial asset markets in the bubble
years? If no, then this is a problem. If yes, then why?

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