Credit Derivatives: Trading, Investing and Risk Management, Second Edition

19

Portfolio Product Types

In sections 19.1 to 19.4 we describe the core portfolio products. In addition to these products other types and variations are seen but - like securitisations and cashflow CDOs - rarely trade in the secondary markets. Cashflow CDOs and securitisations are included because of their important role in bringing certain assets to the market - in particular syndicated loans via LCDOs. We begin by discussing nth-to-default products which, although they are not major products, have many features in common with CDO structures and are often easier to test ideas on (both analytical and trading).

CDO deals that started in the late 1980s usually related to US high-yield reference names. Originally they were collateralised bond obligations (CBOs), introduced by Drexel Burham Lambert towards the end of the birth of the high-yield market. The subsequent high defaults in the bond market focused new efforts towards loans and collateralised loan obligations (CLOs), were introduced. Falling yields on loans meant that the funding arbitrage that drove CLOs would not work, so small high-yield bond buckets were introduced (usually 10% or less); the resulting structures with bonds and loans became known as ‘collateralised debt obligations (CDOs)’. The CDO market was initially predominantly a US market, as US banks looked to focus efforts and origination and shift risk to institutions (insurance and pension funds). In Europe banks were more concerned about removing risk and ...