Course Code: 607

Duration: 1 day

Level: Basic

Fee: $795.00

Instructor: Douglas Carroll

CPE Credits: 7

Prerequisite: No Prerequisite Required

This one-day course will provide a broad introduction to the markets for CDOs and CDS. The program is designed to give participants a familiarity with the basics of these two important financial instruments and insight into the structures used in these markets to better understand their investment characteristics and risks.

The morning will be devoted to cash CDOs in its entirety. The presentation will commence with a conceptual overview of CDOs, their evolution from MBS/ABS, as well as industry terms and definitions. The presentation will follow the life cycle of an arbitrage CDO from conception/formation of the SPV to liquidation of the asset portfolio and final maturity. The discussion will address a range of issues including: relative seniority of tranches, cash flow waterfall, coverage tests, asset portfolio and more. The final portion of the first session will provide similar to balance sheet CDOs.

The afternoon will begin with an introduction to Credit Default Swaps (CDS). It starts with a discussion of the basics of credit derivatives and their evolution from interest rate and total return swaps. The presentation will then review the elements of CDS contracts and their application in credit risk management. Discussion topics will include: single credit and basket default swaps, cash settlement versus physical delivery, types of credit events, contract pricing and more. The final portion of the session will look at the confluence of CDOs and CDS: synthetic CDOs. The presentation will review their evolution from balance sheet structures, contrast them with cash CDOs, and identify certain advantages that lead to the wide adoption of synthetic structures.

Topics of discussion include:

Introduction to Collateralized Debt Obligations

• CDO as a limited life bank
• Economics of CDOs
• Evolution of CDOs from asset backed securities

Structure of a CDO

• Special Purpose Vehicle (SPV)
• Collateral (asset) manager
• Collateral (asset) portfolio
• Source of cash flows
• Tranches
• CDO lifecycle

Arbitrage CDOs

• Arbitrage Cash Flow Transactions
• Fundamentals of cash flow transactions
• Cash flow waterfall
• Market Value Transactions
• Comparison with cash flow transactions

Balance Sheet CDOs

• Introduction to Balance Sheet CDOs
• Similarities to arbitrage CDOs
• Motivations of institutional sponsor
• Structure of Balance Sheet CDOs

Introduction to Credit Default Swaps (CDS)

• Basics of credit default swaps
• Compared to interest rate swaps or total return swaps
• Stripping out the credit risk

Credit Swap Contracts

• Contract terms - notional, tenor, reference credit(s)
• Single credit versus basket default swaps
• Periodic payments by buyer of credit protection
• Cash settlement versus Physical delivery
• Triggering credit event - bankruptcy, rating down grade, failure to pay, etc.
• Nth to default baskets

Uses of Credit Swaps

• Reducing credit exposure (buyer)
• Gaining exposure to markets/asset classes (seller)
• Shorting underlying credit (seller not long underlying)

Synthetic CDOs

• Introduction to Synthetic CDOs
• Evolved from balance sheet CDOs in European market
• Distinguishing characteristic - exposure to risky asset through CDS

Fundamentals of Synthetic CDOs

• Structure of synthetic CDOs
• Low risk collateral assets (funded structure)
• Credit default swaps
• Reference assets
• Comparison to cash CDOs
• Funded versus unfunded CDOs