Why Did U.S. Banks Invest in Highly-Rated Securitization Tranches?

55 Pages Posted: 8 Aug 2011 Last revised: 8 Sep 2024

See all articles by Isil Erel

Isil Erel

Ohio State University (OSU) - Department of Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Taylor Nadauld

Brigham Young University

René M. Stulz

Ohio State University (OSU) - Department of Finance; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Multiple version iconThere are 2 versions of this paper

Date Written: August 2011

Abstract

We estimate holdings of highly-rated tranches of mortgage securitizations of American deposit-taking banks ahead of the credit crisis and evaluate hypotheses that have been advanced to explain these holdings. We find that holdings of highly-rated tranches were economically trivial for the typical bank, but banks with greater holdings performed more poorly during the crisis. Though univariate comparisons show that banks with large trading books had greater holdings, the holdings of highly-rated tranches are not higher for banks with large trading books in regressions that control for bank size. The ratio of highly-rated tranches holdings to assets increases with bank assets, but not for banks with more than $50 billion of assets. This evidence is inconsistent with explanations for holdings of highly-rated tranches that emphasize the incentives of banks deemed "too-big-to-fail". Further, the evidence does not provide support for "bad incentives" theories of holdings of highly-rated tranches. We find, however, that banks active in securitization held more highly-rated tranches. Such a result can be consistent with regulatory arbitrage as well as with securitizing banks holding highly-rated tranches to convince investors of the quality of these securities. Our evidence supports the latter hypothesis.

Suggested Citation

Erel, Isil and Nadauld, Taylor and Stulz, Rene M., Why Did U.S. Banks Invest in Highly-Rated Securitization Tranches? (August 2011). NBER Working Paper No. w17269, Available at SSRN: https://ssrn.com/abstract=1906203

Isil Erel (Contact Author)

Ohio State University (OSU) - Department of Finance ( email )

2100 Neil Avenue
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National Bureau of Economic Research (NBER) ( email )

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European Corporate Governance Institute (ECGI) ( email )

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Taylor Nadauld

Brigham Young University ( email )

Provo, UT 84602
United States

Rene M. Stulz

Ohio State University (OSU) - Department of Finance ( email )

2100 Neil Avenue
Columbus, OH 43210-1144
United States

HOME PAGE: http://www.cob.ohio-state.edu/fin/faculty/stulz

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

European Corporate Governance Institute (ECGI)

c/o the Royal Academies of Belgium
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1000 Brussels
Belgium

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