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From: Krishnamurthy, Ananth [[email protected]]Sent: Thursday, February 08, 2007 4:05 PMTo: Paolo PellegriniSubject: RE : Nice meeting you ...Iam back from the underground.Crazy volatility, huh?I know we ar e incredibly slow given the quick movements in he market.I have been "intensely" looking at manager selection on this.Iwant to confirm something with respect to Paulson's capabilities based on m y conversations with you. The attached emailisprobably helpful as a context point.Paulson projects defaults and loan performance at a LOAN LEVEL, using your default model incorporating (a)HP Aforecasts for the individual loan's geography based on metropolitan area forecasts (using your own sources); an d(b)using loan characteristics (all the typical variables from Loan Performance).Then you aggregate across all the loans to create pool cash flows.Then you ru n this through the ABS cash-flow engine (ie: intex).What makes this hard is hat there isno off-the-shelf way to do this and you had to write the code and th eplumbing/interfaces.This allows you for example to compare forecasts for two pools without using a higher level of aggregation. And allows youto compare tranches off two different deals to examine sensitivity to for example specific variables at a oan level.

-- Original Message--From: Paolo Pellegrini [mailto:[email protected]]Sent: Sunday, January 14 , 2007 4:23 PMTo: [email protected]: RE : Nice meeting you ...Ananth-The probability of writedown of BB B (not just BBB-) RMBS bonds isbond-specific, although some key inputs ar e common.The most important common input ishome price appreciation (HPA) nationally, regionally and at the "metropolitan area"level. HPA drives indidual loan prepayments, defaults and losses. Another common input is nterest rates. Interest ratesmay affect home price appreciation and consequently, though indirectly, prepayments, defaults and losses. If nterest ratesresult in positive HPA, they may also affect prepayments directly (refinance incentive) and default and losses indirectly(prepaid loans don't default). If nterest rates do not result inpositive HPA, their direct effect on prepayments and indirecteffect on defaults and losses is ess important (it svery difficult for subprime borrowers to refinance if their property has notappreciated).Bond-specific inputs fall into two categories: collateral characteristics; and deal structure.The most relevant collateral characteristics at origination ar e FICO, combined loan-to-value ratio (including simultaneoussecond-lien loans), level of documentation and geographic location (back to HPA). For seasoned collateral, performanceafter origination, in erms of prepayments, delinquencies, defaults and losses, provides additional insight.The most relevant deal characteristics are overcollateralization, excess spread, step-down triggers and interest rateexposure. We focus primarily on overcollateralization and the so-called delinquency trigger. Excess spread (including theeffect of unhedged interest rateexposure) ismore important for residual holders than for debt holders, given the timing of realization of losses. Alsobecause of the timing of realization of losses, the cumulative loss trigger (the other step-downtrigger) isusually inconsequential.

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We evaluate the prospects for home price appreciation with the help of our board of advisors. Not only do we believe thathome prices ar e overvalued on most measures, but we also believe that the Federal Reserve will have to manage interestrates inorder to restrain households' continuing equity extraction from their homes at the current unsustainable rate ($400billion annualized as of the most recent quarterly reading). Even though subprime borrowers are suffering from excessiveleverage and debt-service burden, mainstream borrowers still have enormous leverage capacity, predicated on arguablyovervalued real estate holdings. Increasing leverage drives consumption and the trade deficit and leaves the dollar and U.S.long-term rates at the mercy of foreign investors' willingness to recycle export receipts into U.S.financial assets, avery unstable arrangement.It s rue that the market is not pricing the subprime RMBS wipeout scenario. Inmy opinion this situation isdue to the fact thatrating agencies, CDO managers and underwriters have all the incentives to keep the game going, while "real-money"investors have neither the analytical tools nor the institutional framework to take action before the losses that one couldanticipate based the "news" available everywhere ar e actually realized.Ifyou want to discuss specific analyses of bond expected losses, we could set up aconference call for the week of the22nd. I will be inWyoming but Ican do early calls before Igo skiing.Please let me know.Paolo-Original Message-From: Krishnamurthy, Ananth [mailto:[email protected]]Sent: Friday, January 12 , 2007 3:17 PMTo: Paolo PellegriniSubject: Re : Nice meeting yo u ...We can do that. The core focus iswhat the logical underpinning - very granularly - is or awipeout of the BBB-. Insomesense itdoesn't take much. But how plausible is it.Clearly the market isnot pricing this scenario. It s ooking for serialdowngrades and pricing to next event, ie: just spread widening. Why does this disconnect exist?Jacob, for example, would say - "the news iseverywhere, why isn't this priced inalready?"

-Original Message-From: "Paolo Pellegrini" Date: Fri, 12 Jan 2007 15:11:39To:Subject: RE : Nice meeting you ...I am out that week and back in he office on the 31st. Please let me know if you want to meet after the 31st. Thanks.-Original Message-From: Krishnamurthy, Ananth [mailto:[email protected]]Sent: Friday, January 12 , 2007 3:08 PMTo: Paolo PellegriniSubject: Re : Nice meeting yo u ...H i - thx for getting back to me. Iam keen to hear your thoughts on this. However, I am travelling next week. Can I circle upwith you week of 22nd?-Original Message---From: "Paolo Pellegrini" Date: Fri, 12 Jan 2007 13:15:21To:Subject: RE : Nice meeting you ...Ananth-Sorry for the delay responding to you. I am available next week. We have our advisory board meeting on Tue pm and Iwillbe in abetter position to address your home price question after that. Ifyou have anything specific that yo u want me to ask

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of our board please let me know.Otherwise, please suggest times that work for you on Thu (excl. 10-11 am O or Fri.Regards.-Original Message-From: Krishnamurthy, Ananth [mailto:[email protected]]Sent: Tuesday, January 09, 2007 4:12 PMTo: Paolo PellegriniSubject: RE : Nice meeting you ...Hi - have read all the stuff.I know market has moved nicely inyour favor.Kudos!Would still be interested incontinuing conversation.My core focus in talking with you will be on your homeprice deterioration thesis. Seems like the market isnot pricing inawashout of BBB-s. Worst quartile of the index still has a500bps average spread. If twere pricing in awipeout, itwould betrading 30c on the dollar.Let me know when you have some time to speak.ThanksAnanth-Original Message-From: Paolo Pellegrini [mailto:[email protected]]Sent: Wednesday, December 20, 2006 7:22 AMTo: [email protected]: Nice meeting you ...Ananth-Iwish I ha d learned of your background and relationship with Jacob earlier inour conversation - Iwould have been a ittlemore specific in my remarks.

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With respect to Andys comments that Intex makes modeling errors, I would note that he cites his experience working onbusted manufactured housing deals five years back as the basis for his assessment. I hink that Intex has come a ong w ayin erms of quality control. Besides, as John was saying, in his market we can make good trading decisions with our existinganalytics. However, we will hire more people with relevant experience including somebody who could focus on reverseengineering the Intex models as such effort becomes more relevant.We have avery good relationship with Intex and have urged them to allow hosting of their data by 101 Odata and made someprogress. Aside from being acash flow engine, Intex is eally adatabase partly overlapping with LoanPerformance, partlyadditive to LP with respect to loan prepayment terms including penalties. In he context of analyzing seasoned deals, ofwhich we do not do much now but will in he future, cross-checking monthly data between LP and Intex will be valuable.As for our research infrastructure, I am very happy with the choices we have made. I mentioned that we get loan data fromLoanPerformance, historical and projected home price data from FISERV/Economy.com and deal data from Intex. Twodecisions, however, put us ahead of the pack.The first such decision was to host LP and FISERV on 101 Odata. The second was to forgo integration of theLoanPerformance RiskModel into our analytical platform and to develop instead our proprietary, and extremelyparsimonious, prepayment, default and severity model. The use of 101 Odata enabled the second decision because itmadepossible to analyze historical data easily, quickly and with minimal initial setup time. Had we gone with LP RiskModel wewould be stuck with awhite elephant in the middle of avery deep river. Even with Andrew Davidson's more compact model,itwill be astretch to find a processing platform that can deliver meningful results ina reasonable timeframe (Iguess

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