Collateralized Debt Obligation

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Related to Collateralised debt obligations: Credit default swap, Collateralized Loan Obligations

Collateralized Debt Obligation (CDO)

Collateralized Debt Obligation

An asset-backed security backed by the receivables on loans, bonds, or other debt. Banks package and sell their receivables on debt to investors in order to reduce the risk of loss due to default. Returns on CDOs are paid in tranches; that is, the individual loans backing each CDO have different levels of risk, and investors are paid out according to the level of risk they have acquired. Banks offer higher interest rates to investors willing to buy CDOs backed by higher-risk loans. From a bank's perspective, in addition to reducing risk, CDOs also reduce their capital requirements because they can raise funds through the issue of CDOs. While, theoretically, CDOs can be backed by mortgages, one usually refers to these as collateralized mortgage obligations.

collateralized debt obligation (CDO)

A debt security collateralized by a variety of debt obligations including bonds and loans of different maturities and credit quality.
Case Study Collateralized debt obligations (CDOs) originated in the 1990s when financial institutions began moving debts off their balance sheets by selling new securities (CDOs) using bonds and loans—often of relatively low credit quality—as collateral. Each CDO package permits investors to choose particular securities of different risk, ranging from investment-grade to very speculative. A CDO is considered high quality when it enjoys first claim on cash flows produced by the package of loans and bonds. This safety results in high-quality CDOs promising investors relatively low rates of return. CDOs with a lower claim to a package's cash flows carry a high rate of return because of the increased likelihood that some of the payments from the underlying collateral will not occur. Many CDOs were issued with low-grade bonds as collateral at a time when junk bond defaults were in the range of 2% to 3%. The subsequent meltdown of telecommunications and other high-tech firms in 2000 and 2001 resulted in increased defaults on debt that caught many CDO investors by surprise. In fact, the sudden decline in credit quality surprised even professional investors. Financial services company American Express was forced to take pretax writeoffs of over $1 billion in the first seven months of 2001 to account for the decreased market value of the CDOs and other debt securities held in its portfolio. Bank One and insurance companies Lincoln National, American General, and Torchmark were also forced to take large writeoffs on CDO holdings.
References in periodicals archive ?
Most recently, he was the managing director responsible for Lehman Brothers' collateralised debt obligations banking group involved with the origination, structuring and coordination of the distribution of funded transactions with a particular focus on the collateralised loan obligations business.
The bank racked up the loss largely through the sale of collateralised debt obligations (CDOs) with a nominal value of pounds 16.2bn to investment group Lone Star Funds for pounds 3.6bn.
The assets to be shed include real estate, leveraged commitments, subprime collateralised debt obligations and structured investment vehicles.
Its portfolio of sub-prime collateralised debt obligations (CDOs) now stands at 2.9 billion euros (pounds 2.2 billion).
Robert Hough, chairman of Cheshire Building Society, said: "As a responsible lender, the society's prudent approach ensures we have a strong mortgage book and no exposure to the US subprime assets or any investments in CDOs collateralised debt obligations or SIVs structured investment vehicles.
Including collateralised debt obligations, the products were one of the factors which triggered Northern Rock's implosion in 2007, and the beginning of the financial crisis in the UK.
NAB had bought collateralised debt obligations exposed to US sub prime residential mortgage market, which eventually turned toxic, according to the class action lawyer firm.
Principles would not apply to securities backed by asset pools that are actively managed, such as securities issued by investment companies or collateralised debt obligations, or that contain assets that do not by their terms convert to cash
Lehman Brothers Specialty Financing Inc, a unit of Lehman Brothers Holdings Inc (OTC: LEHMQ) has filed a legal case against Bank of America Corporation (NYSE: BAC) and a unit of Barclays Plc (LSE: BARC) (NYSE: BCS) over 2007 collateralised debt obligations that Lehman had bet against, Dow Jones has reported citing court filings.
He said the trades have been fully disclosed already and amount to less than $10 billion of the firm's $71.6 billion exposure to derivative contracts on debt pools, or collateralised debt obligations, as of September 30.
Pandit became chief executive after predecessor Charles Prince resigned under pressure on November 4 as losses mounted from soured loans and complex securities known as collateralised debt obligations.
The write-downs were across the range of Credit Suisse's exposures to commercial mortgage-backed securities (CMBS), retail mortgage-backed securities (RMBS) and collateralised debt obligations (CDOs).