Risk concentrations

Positions related to US residential sub-prime mortgages

UBS's net exposure to sub-prime mortgages was reduced by more than 40% since the end of 2007, to USD 15.6 billion at 31 March 2008, through a combination of writedowns, asset sales, hedging and amortizations. Writedowns were mainly recorded in super senior sub-prime RMBS CDOs where average marks have been reduced substantially. Asset sales were realized mostly in sub-prime RMBSs.

On 31 March 2008, around one-third of UBS's remaining positions in super senior RMBS CDOs referred to mortgage loans of vintage 2005 or earlier. The other two-thirds referred predominantly to mortgage loans with 2006 vintages, with a small amount referring to 2007 vintages. These securities have a range of subordination levels and maturities and rights upon events of default also vary.

At the same date, approximately 80% of sub-prime RMBSs referred to mortgage loans with 2006 and 2007 vintages, while the remaining securities referred to mortgage loans of 2005 or earlier vintages. On 31 March 2008, the overwhelming majority of these RMBSs were rated AAA. The weighted average life of the bonds in this AAA pool is itself two years on average.

Positions related to US residential Alt-A mortgages

UBS's net exposure to US residential Alt-A mortgages has reduced by approximately one-third since year-end 2007, to USD 17.1 billion at 31 March 2008. These Alt-A positions can be divided into two main categories. The first consists of AAA-rated RMBSs, backed by first lien mortgages, which amounted to USD 14.5 billion net exposure at 31 March 2008. The second category consists of super senior RMBS CDOs and other RMBSs, either non-AAA or backed by second lien mortgages. These positions amounted to USD 2.6 billion at the same date.

During first quarter 2008, writedowns were mainly recorded in AAA-rated Alt-A RMBSs backed by first lien mortgages. UBS was also able to sell a number of these positions as well as other Alt-A RMBSs.

Positions related to US commercial real estate

UBS has exposure to US commercial real estate from two sources. The first is its trading inventory, which includes super senior commercial mortgage-backed securities (CMBS) CDOs, CMBS and positions held for securitization, amounting to a net exposure of USD 3.2 billion at 31 March 2008. All of the CMBS positions were rated AA or better.

The second category consists of direct loans and investments totaling USD 3.1 billion on 31 March 2008, of which USD 411 million are classified as equity investments. The assets in this category are diversified by sector and geography.

In first quarter 2008, UBS reduced its marks mainly on super senior CMBS CDOs and was able to reduce exposures, in particular to US commercial real estate loans.

Positions related to the US reference-linked note program

The structure of UBS's reference-linked note (RLN) program is explained in the sidebar below.

UBS has created ten US RLNs to date. The maximum permitted aggregate face value of the underlying asset pools totals USD 16.9 billion, against which UBS in aggregate holds a first loss credit protection of USD 3.8 billion provided by the RLN note-holders. This means that UBS is protected up to this amount in case of defaults in the underlying pool. To date, defaults and / or realized losses have been minimal and the overwhelming majority of the protection provided by the RLN note holders is therefore still intact.

As the fair value of the underlying asset pool has experienced further markdowns during the quarter, the fair value of the RLN protection has experienced a corresponding further increase. However, the magnitude of this increase is smaller than the asset decline, since the credit protection is only partial. The net result of these movements was a first quarter loss totalling USD 1.6 billion, related mainly to the sub-prime and Alt-A component of the US RLN program.

While the overwhelming majority of the protection still remains intact from the point of view of actual realization, in fair value terms the amount of protection remaining has decreased from USD 2.0 billion to USD 1.6 billion.

The total net exposure to assets held by UBS in connection with the US RLN program was USD 8.9 billion on 31  March 2008, a reduction of USD 2.3 billion since year-end 2007.

Exposure to monoline insurers

The vast majority of UBS's direct exposure to the monoline sector arises from over-the-counter (OTC) derivative contracts - mainly credit default swaps (CDSs). On 31 March 2008, the total fair value of CDS protection purchased from monoline insurers, across all asset classes, was USD 6.3 billion, after cumulative credit valuation adjustments of USD 2.6 billion. Of these totals, USD 4.8 billion represents CDSs bought as protection for portfolios of US RMBS CDOs, after cumulative credit valuation adjustments of USD 2.3 billion.

Direct exposure to monoline insurers is calculated as the sum of the fair values of individual CDSs. This, in turn, depends on the valuation of the instruments against which protection has been bought. A positive fair value, or a valuation gain, on the CDS is recognized if the fair value of the instrument it is intended to hedge is reduced.

The table on the right shows the CDS protection bought from monoline insurers. It illustrates the notional amounts of the protection originally bought, the fair value of the underlying instruments and the fair value of the CDSs both prior to and after credit valuation adjustments taken for these contracts. The methodology for calculating the monoline credit value adjustment is subject to substantial judgment and based partially on the illiquid credit default swap markets, which provide only a rough approximation of the implicit likelihood that monolines would default on their obligations to UBS. As such there is considerable uncertainty. Further, assessing the severity of loss to UBS in the event of a monoline default is also subject to substantial judgment and uncertainty.

In first quarter 2008, UBS took credit valuation adjustments of USD 766 million on US RMBS CDOs purchased from a monoline insurer whose credit rating was downgraded to "non-investment grade" in fourth quarter 2007. These valuation adjustments reflect the degree to which UBS considers its claims against this monoline counterparty to be impaired. For risk management purposes, the underlying US RMBS CDOs are treated as unhedged on 31 March 2008 and are also included in the corresponding super senior RMBS CDO exposure.

In its trading portfolio, UBS also has indirect exposure to monoline insurers through securities which they have guaranteed ("wrapped"), issued by US states and municipalities, US student loan programs and other asset-backed securities totaling approximately USD 14 billion on 31 March 2008 (approximately USD 11 billion on 31 December 2007).