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Collateralized Debt Obligations,[object Object],An Overview,[object Object]
CDOs – Introduction and Overview,[object Object],Structuring of CDOs – Warehousing,[object Object],CDO Portfolio Management, Compliance, Risk Management, Accounting and Operations of CDOs (Intro and Prelude for the next presentation),[object Object],Questions,[object Object],Welcome and Introduction,[object Object]
What are CDOs?,[object Object],Types of CDOs,[object Object],Parties to a CDO Transaction,[object Object],Motivations for managing and/or investing in CDOs,[object Object],Advantages of CDOs,[object Object],Disadvantages of CDOs,[object Object],Typical Cash Flows of CDOs,[object Object],Life Cycle of CDOs,[object Object],CDOs – Introduction and Overview,[object Object]
What are CDOs?,[object Object],CDOs are a form of Asset-Backed Security (ABS) that derives its returns and/or performance from the cash flow activity of it underlying assets, which include, but are not limited to, the following:,[object Object],High Yield (HY) and/or Investment Grade (IG) Bonds,[object Object],Leveraged (Bank and/or Middle Market) Loans,[object Object],Prime/Mid-prime/Sub-prime Residential Mortgage-Backed Securities (RMBS),[object Object],Commercial Mortgage-Backed Securities (CMBS),[object Object],IG and HY Senior and Mezzanine CDO Tranches,[object Object],Credit Default Swaps (referencing the aforementioned assets); can either sell protection (typical) or buy protection (rare),[object Object],Emerging Market (EM) Debt,[object Object],CDOs – Introduction and Overview,[object Object]
CDOs – Introduction and Overview,[object Object],The Typical CDO Structure – A Graphical Representation,[object Object],Collateral Manager,[object Object],Fees,[object Object],Unfunded CDS CP,[object Object],TRS Counterparty,[object Object],Super Senior Swap CP,[object Object],(optional),[object Object],IRS/IRC/IRF Counterparty,[object Object],[object Object]
Administration
Risk ManagementNet Swap/Cap/Floor,[object Object],Payments,[object Object],Senior Notes (AAA),[object Object],SPV / Issuer,[object Object],CDO Entity,[object Object],Assets,[object Object],(Categories),[object Object],HY Corp. Bonds,[object Object],IG Corp. Bonds,[object Object],Leveraged Loans,[object Object],Prime RMBS,[object Object],Midprime RMBS,[object Object],Subprime RMBS,[object Object],CMBS,[object Object],CDOs,[object Object],CDS (referencing,[object Object],all of the above),[object Object],Senior Notes (AA),[object Object],Buys ABS,[object Object],Buys Assets,[object Object],Mezzanine Notes (A),[object Object],Principal & Interest (or Premiums),[object Object],Principal, Interest, Premiums & Fees,[object Object],Junior Mezz Notes (BBB),[object Object],[object Object]
Portfolio Analytics
Investor Reporting
Trade SettlementEquity/Sub Notes (NR),[object Object],Fees,[object Object],PPN Notes,[object Object],Combo Notes,[object Object],Trustee,[object Object]
What are CDOs? - Continued,[object Object],Unique Aspects to CDOs vs. Other Traditional ABS,[object Object],Active Portfolio Management (Static Funds are rare),[object Object],Revolving Asset Turnover Periods (5-7 years),[object Object],Call Provisions and Lock-Out Periods,[object Object],Tranched Liabilities – various payment priorities and cash flow mechanisms,[object Object],Trading restrictions established via complex, interrelated Compliance Rules,[object Object],Coverage Tests (Overcollateralization, Interest Coverage, Interest Diversion, etc.),[object Object],Trustee presence and involvement, in addition to third-party verification and review (i.e., Big 4 Auditors),[object Object],Enhanced Reporting Requirements (Monthly),[object Object],CDOs – Introduction and Overview,[object Object]
CDOs – Introduction and Overview,[object Object],Types of CDOs,[object Object],Collateralized Bond Obligations (HY/EM Debt) – “CBOs”,[object Object],Collateralized Loan Obligations (“CLOs”),[object Object],Collateralized Synthetic Obligations (“CSOs”),[object Object],Structured Finance CDOs,[object Object],Residential (Single, Multi-Family) Mortgage CDOs,[object Object],Commercial Real Estate CDOs,[object Object],Constant Proportion Debt Obligations (“CPDOs”),[object Object],Funding for CDOs,[object Object],LT Cash – Debt/Equity Capital funds purchased assets,[object Object],ST Cash – CP issuance (and roll-over) funds LT assets,[object Object],Synthetic – CDS/TRS/Liquidity Facility,[object Object],Hybrid – Combination of Cash and Synthetic,[object Object]
CDOs – Introduction and Overview,[object Object],Parties to a CDO,[object Object],Issuer/SPV – Legal entity that issues the CDO,[object Object],Underwriter – Structures and places CDO Debt and Equity with investors; also provides financing during the warehousing period (if necessary),[object Object],Collateral Manager –Performs Portfolio Management function (asset selection, portfolio administration, risk management, etc.),[object Object],Trustee – Provides Custodian and Portfolio Administration Services and serves as the official record regarding holdings and cash transactions ,[object Object],Rating Agencies – Evaluates and rates debt,[object Object],Independent Auditors – Performs CDO issuance, waterfall verifications, and tax (PFIC) reporting services, as applicable,[object Object]
CDOs – Introduction and Overview,[object Object],Motivations for doing a CDO Transaction,[object Object],Expand Assets Under Management (“AUM”) – CDOs are a great way for investment management firms to increase AUM via access to Investment Bank clientele vs. utilizing its own sales force (generally non-existent for small shops).  More AUM means for more management fees.,[object Object],Expand Asset Management Expertise –CDOs allow traditional fixed income managers to expand their normal asset base by adding investment buckets that allow for investments in different assets.  This strategy can also be executed by adding the requisite PM expertise to the asset management team (and launching new funds) as well.,[object Object],Secured Financing/Leveraged Returns – Unlike TRS, Repurchase Agreements or Margin Trading, CDOs can be utilized to generate leveraged returns to equity investors by utilizing LT debt to invest assets that generate alpha.,[object Object]
CDOs – Introduction and Overview,[object Object],Motivations for Investing in a CDO,[object Object],Higher Risk-Adjusted Return Prospects – CDO debt investors typically receive a higher spread vs. similarly rated instruments.  CDO Equity seeks leveraged returns.,[object Object],Diversification – By pooling assets of various products, industries, tenor and credit profiles (limited by trading rules), investors find CDOs attractive for their risk-mitigating return (i.e., low correlation to S&P 500) prospects vs. taking single-name risk.,[object Object],Expand Asset Exposures – Although the investor profile for CDOs include both Institutional and Sophisticated/HNW investors, CDOs provide investors the ability to gain exposure to instruments that they otherwise would not be able to (e.g., CDS contracts on CDO tranches),[object Object]
CDOs – Introduction and Overview,[object Object],Advantages of CDOs,[object Object],Diversification (low correlation with other instruments),[object Object],Favorable Taxation – Typically created offshore in tax-advantaged jurisdictions (i.e., Cayman Islands, Ireland, etc.) and co-issued onshore in Delaware, the earnings and profits gained by CDOs is shielded from federal and state taxation.,[object Object],Adaptive Structures – Properly structured deals can adapt to market volatility (flexibility to vary asset mix or trade rules),[object Object],Disadvantages of CDOs,[object Object],These are Very Complex Instruments – Many players in the market are not experts in the industry or the product,[object Object],Relatively low oversight and transparency –Issued under Rule 144(a) and Reg S, CDOs are issued privately and there are typically no requirements for financial statements or audits.,[object Object],Capital can be tied up for years once a deal goes bad - Cash checks in, but sometimes doesn’t check out.....  ,[object Object]
Cash Flow Structure of CDOs,[object Object],Interest Proceeds,[object Object],Principal Proceeds,[object Object],Taxes and Filing Fees,[object Object],Taxes and Filing Fees,[object Object],Admin Expenses,[object Object],Admin Expenses,[object Object],Snr Mgmt Fees,[object Object],Hedge Payments,[object Object],Senior Debt Interest,[object Object],(subject to Pro-Forma,[object Object],Coverage Tests),[object Object],Senior Mgmt Fees,[object Object],Fail,[object Object],Net Hedge Payments,[object Object],Senior Debt Interest,[object Object],Coverage Tests,[object Object],(Pro-Forma),[object Object],Redemption Order,[object Object],Coverage Tests,[object Object],Fail,[object Object],Fail,[object Object],Pass,[object Object],Senior Debt,[object Object],Pass,[object Object],Mezz/Junior Debt Interest,[object Object],(incl. PIK Interest),[object Object],Mezz/Junior Debt Interest,[object Object],(incl. PIK Interest),[object Object],Mezz Debt,[object Object],Coverage Tests,[object Object],(Pro-Forma),[object Object],Coverage Tests,[object Object],Junior Debt,[object Object],Senior Debt Principal,[object Object],Pass,[object Object],Reinvestment,[object Object],Period?,[object Object],No,[object Object],Mezz/Junior Prin,[object Object],Subordinate Mgmt Fees,[object Object],Sub/Incentive ,[object Object],Mgmt Fees,[object Object],Equity Dividend,[object Object],Yes,[object Object],Equity,[object Object],Reinvest Cash,[object Object],CDOs – Introduction and Overview,[object Object]
CDOs – Introduction and Overview,[object Object],Lifecycle of a CDO,[object Object],Warehousing Period – SPV is created and assets are acquired while the debt and equity are sold to investors; typically lasts 3-12 months.  The Warehouse “closes” at the end of this period and the CDO goes live (The “Closing Date”).,[object Object],Reinvestment Period – Typically 5 to 7 years from Closing Date; Investment allowed (within compliance rules),[object Object],Non-Call Period – No Calls 3 to 5 years from Closing Date.,[object Object],Amortization/Callable Period – Begins 5 to 7 years after Closing.  During this period, (1) the CDO’s debt can be repaid (partially or completely) with principal cash from sales, amortizations, calls or redemptions or (2) the debt is completely retired with sales proceeds from the sale of assets  ,[object Object],Maturity/Termination – All assets are liquidated, all debt is retired, equity is paid residual interest and the SPV is terminated.,[object Object]
Structuring of CDOs - Warehousing,[object Object],Establishing a Warehouse,[object Object],Warehouse Agreement Basics,[object Object],Warehouse Asset Management, Compliance, Administration and Operations,[object Object],Closing the Warehouse,[object Object]
Establishing The Warehouse,[object Object],When Warehouses are opened, Portfolio Managers contract with Investment Bankers, who provide financing and Placement Agent services. Why is this done? Managers can ramp-up their portfolios and take advantage of certain market conditions and Underwriters secure new transaction business (which generates fees between 1-5% of the deal size).,[object Object],The SPV is legally established, along all with the filing of the requisite paperwork (W-8BEN for tax, for example) and the establishment of custodial and trading accounts.  Also, a trustee is hired to serve as Warehousing Agent (note that the Underwriter can agree to take the exposure risk on its own balance sheet, thus rendering the need for a Trustee moot).,[object Object],Trading begins and assets are acquired in compliance with the criteria set forth in the warehousing agreement, or with prior approval of the Underwriter (if such assets are warehoused on the Underwriters’ Balance Sheet).,[object Object],Structuring of CDOs - Warehousing,[object Object]
The Typical CDO Warehouse Structure – A Graphical Representation,[object Object],Collateral Manager,[object Object],Mgmt Fees (if any),[object Object],[object Object]
 Administration
 Risk ManagementSales Proceeds (for FAS 140 sales); only for assets sold directly  to SPV,[object Object],Loan Proceeds,[object Object],SPV / Issuer,[object Object],CDO Entity,[object Object],Investment Bank/,[object Object],Underwriter,[object Object],Assets/,[object Object],Warehouse Acct,[object Object],Buys Assets,[object Object],[object Object]
 Debt & Equity Placement FessPrincipal, Interest, Premiums & Fees,[object Object],[object Object]

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