Cash CDO Basics
Collateralized debt obligations (CDOs) have been around since 1987. Yet it was only in 1998 that annual issuance broke $100 billion. As of 2005, $1.1 trillion of CDOs were outstanding, making CDOs the fastest-growing investment vehicle of the last decade. This growth is a testament to their popularity among asset managers and investors.
A CDO issues debt and equity and uses the money it raises to invest in a portfolio of financial assets such as corporate loans or mortgage-backed securities. It distributes the cash flows from its asset portfolio to the holders of its various liabilities in prescribed ways that take into account the relative seniority of those liabilities. This is just a starting definition, we will fill in the details for this definition over the next few pages.
In this chapter, we first make the case that it is worth taking the time to understand CDOs. Then, to properly explain CDOs, we break them down into their four moving parts: assets, liabilities, purposes, and credit structures. We explain each building block in detail and create a framework for understanding CDOs that puts old and new CDO variants in context and cuts through confusing financial jargon. Next, we define the roles of the different parties to a CDO.
WHY STUDY CDOs?
Before we tell you more about CDOs, you should know why it is worth your time to take notice. There are three compelling reasons:
Reason #1: There are a lot of them. As noted earlier, as of 2005 the total ...