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Asset Securitization: Theory and Practice by JOSEPH C. HU

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Chapter 13

Collateralized Debt Obligations

For all asset-backed securities (RMBS, CMBS, and ABS) discussed in the previous chapters, the underlying assets are residential mortgages, commercial mortgages, or consumer loans (credit card receivables and auto loans). The cash flows of these assets are sold primarily by their originators to investors for funding through an SPE. In all cases, the SPE is just a shell, owning the pool of underlying assets as the only asset and having the securities it issued as the only liability. This SPE is a neutral trust in the sense that it has no-one managing the pool of underlying assets as an investment portfolio. There is only the trustee-appointed servicer, who collects the cash flow generated from the underlying assets and passes the cash flow through the SPE to investors. To the extent that the servicer manages the cash flow, it is only in the manner of allocating it for the purposes of maturity and credit tranching.

Collateralized debt obligations (CDOs) are also a product of asset securitization. However, CDOs are different from all the previously discussed asset-backed securities in many aspects. Most significant, the underlying assets of CDOs are speculative-grade corporate bonds and credit classes of asset-backed securities. These assets, which are securities themselves, are heterogeneous and contrast sharply with the homogeneous underlying assets (which are consumer and business loans) for the asset-backed securities. Further, the underlying ...

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