Lesson 6 of 25 · 6 min
Why the advance rate and the maintenance rate do different jobs
The gap between the two is not redundancy; it is the lender's cure period, bought and paid for with your headroom.
Track 1 lesson 5 separated these two rates from the borrower's side: one sets what you can draw, the other sets when you get called. From the lender's side they are solving two different problems, and that is why they were never going to be the same number.
The advance rate solves the origination problem. It decides how much exposure to create against a given portfolio, and the discount it applies buys time — the amount of drift the position can absorb before anyone at the institution has to do anything. Monitoring is not free. A schedule that let every borrower start at the edge would generate exceptions constantly.
The maintenance threshold solves the liquidation problem. It sets the point at which the lender intervenes, and what matters about that point is what is left standing behind the loan when it is reached. If the threshold is 72 percent of market value, then at the moment it is touched the lender still holds 28 percent of collateral value above the balance. That residual, not the advance rate, is the buffer that has to survive the sale.
So the two numbers are protecting against different things over different horizons. The advance rate is a provision against ordinary drift, spent slowly. The maintenance threshold is a provision against the liquidation itself, spent all at once. Reading either as a measure of safety in isolation gets the mechanism wrong in both directions.
The advance rate buys the lender quiet. The maintenance threshold buys the lender cover. Only the second one is still there on the day it matters.
Key terms
- Residual cover
- Collateral value above the balance at the moment the maintenance threshold is touched. One minus the threshold, applied to the trigger value.
- Trigger value
- The market value at which the balance exactly equals the maintenance threshold. Balance divided by the threshold.
- Drift
- Ordinary movement in collateral value and accrued interest between origination and the first intervention. What the advance rate's discount is provisioned against.
Worked example
What each rate is actually holding back
Advance rate 55 percent, maintenance threshold 72 percent of market value. $880,000 pledged, drawn in full.
- Amount drawn
- $484,000
- Market value at which the threshold is touched
- $672,222
- Decline absorbed before intervention
- 23.6%
- Collateral standing above the balance at that point
- $188,222
- What each rate produced
- 23.6% of quiet, 28% of cover
$880,000 × 0.55.
$484,000 divided by 0.72.
($880,000 - $672,222) divided by $880,000.
$672,222 × 0.28.
The advance rate delivered a 23.6 percent decline before anyone had to act. The maintenance threshold delivered the 28 percent that has to absorb the sale.
Check yourself
Advance rate 60 percent, maintenance threshold 74 percent of market value. A borrower pledges $715,000 and draws the full amount. How far can the portfolio fall before the threshold is touched, and how much collateral stands above the balance at that moment?
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Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.