Introduction to Securitization

TYPICAL STRUCTURE OF A CDO

In comparing the typical structure of a CDO with a retail ABS transaction, the three key features of CDOs that we discussed earlier become important.

Since a CDO is a pool of corporate exposures, it typically would consist of 20 to 500 loans or bonds to make the pool, as against traditional ABS, which have anything between 500 to 100,000 loans comprising the pool. The number of obligors making up the pool is a reflection of the granularity of the pool—obviously, CDO pools have much less granularity. Distinctive features that result from this nature of the collateral are as follows:

• In analyzing the credit risk and other features of the pool, in retail ABS, the common approach is to use a top-down approach; that is, to treat the pool as homogenous and apply characteristic features such as default rate, delinquency rate, prepayment rates, and so on to the entire pool. In other words, the pool-level characteristics are applied to the individual loans in the pool. In the case of corporate loan pools, the pool cannot be taken to be homogenous—so, the analyst studies the distinctive features of each loan in the pool, and aggregating the information about each loan, the pool-level characteristics are derived. We will call this a bottom-up approach.

• In statistical analysis of the probability of default of the pool, retail pools tend to exhibit the behavior as suggested by a normal distribution, given the large number of loans in the pool. The probability ...