Thought you were the only one who really doesn’t understand collateralized debt obligations or, better yet, CDO-Squareds?
Rest easy. No one really does.
The Alea blog pulls this fascinating quote from a speech by Bank of England official Andrew Haldane (emphasis mine):
To illustrate, consider an investor conducting due diligence on a set of financial claims: RMBS, ABS CDOs and CDO^2. How many pages of documentation would a diligent investor need to read to understand these products? Table 2 provides the answer. For simpler products, this is just about feasible – for example, around 200 pages, on average, for an RMBS investor. But an investor in a CDO^2 would need to read in excess of 1 billion pages to understand fully the ingredients.
Haldane concludes:
End-investors in these instruments were no more likely to know the name of the companies in their portfolios than the name of the cow or pig in their exotic hot dog.
Sausage analogies are about right.
(h/t Felix Salmon)
Call me a spoil-sport, or some kind of economic Luddite, but I am pretty sure the world economy (and my/your/the country's place in it) shouldn't be decided by unregulated trades in instruments the composition and constitution off which nobody has the SLIGHTEST fucking idea of...or any way to explain it to the interested parties.
Sorry, I just don't
#1 Posted by woody, CJR on Thu 30 Apr 2009 at 02:54 PM
I remember thinking the same thing about 10 years ago, reading the prospectus on a new hedge fund group's "fund of funds." It looked to me like a nifty way for the hedge funders to grab another slice of fees, which it was. But the idea of anyone actually drilling down to see what the actual investments were? It was not contemplated.
#2 Posted by edward ericson jr., CJR on Thu 30 Apr 2009 at 03:53 PM
Certainly CDO^2s were overly complex, but in a major speech like this, the Bank of England official ought to get his numbers right. The implication of having to read 1 billion pages, with each deal about 200 pages, is that a typical CDO^2 is backed by 5 million unique transactions. In reality, it's probably more like 10 to 20 thousand. Still outrageous, but no need for the hyperbole.
Ross Heller
Managing Director
NewOak Capital
http://www.newoakcapital.com/market-outlook/?cat=58
#3 Posted by Ross Heller, CJR on Thu 30 Apr 2009 at 05:07 PM