Synthetic Collateralised Debt Obligations
In the previous chapter we looked at the basic concepts of traditional cash flow securitisation. Combining certain aspects of this technique with credit derivatives technology gives rise to so-called synthetic securitisation, also known as unfunded securitisation. In a synthetic transaction, the credit risk of a pool of assets is transferred from an originator to investors, but the assets themselves are not sold.1 In certain jurisdictions, it may not be possible to undertake a cash securitisation due to legal, regulatory, cross-border or other restrictions. Or, it may be that the process simply takes too long under the prevailing market conditions. In such cases, originators use synthetic transactions, which employ some part of the traditional process allied with credit derivatives. However, if the main motivation of the originator remains funding concerns, then the cash flow approach must still be used. Synthetic transactions are mainly used for credit risk and regulatory capital reasons, and not funding purposes.
This chapter is an analysis of the synthetic collateralised debt obligation (CDO), or collateralised synthetic obligation (CSO). We focus on the key drivers of this type of instrument, from an issuer and investor point of view, before assessing the mechanics of the structures themselves. This takes the form of a case study-type review of selected innovative transactions. We begin with a brief introduction to the concept ...