Two hedge funds that predicted sub-prime crisis see corporate debt as next casualty
November 15, 2007 1:16 PM Subscribe
Two hedge funds that predicted sub-prime crisis see corporate debt as next casualty Two hedge fund firms that racked up huge gains betting on the subprime mortgage meltdown have begun winding down those trades and looking elsewhere. They're now betting against corporate debt using derivatives.
"Past performance is no guarantee of future success."
posted by Steven C. Den Beste at 1:29 PM on November 15, 2007
posted by Steven C. Den Beste at 1:29 PM on November 15, 2007
"Past performance is no guarantee of future success."
I don't think you really understand what that statement is meant to mean.
posted by public at 1:32 PM on November 15, 2007
I don't think you really understand what that statement is meant to mean.
posted by public at 1:32 PM on November 15, 2007
One person predicts hedge funds as the next casualty
posted by mcstayinskool at 1:32 PM on November 15, 2007
posted by mcstayinskool at 1:32 PM on November 15, 2007
public - yeah, I think they are/can be. While I'm not very knowledgable about the diversity of and exposure to different types of collateral in the CDO world, there are certainly other securitized offerings backed solely by, say, subprime mortgages, or solely by credit card debt.
posted by taliaferro at 1:35 PM on November 15, 2007
posted by taliaferro at 1:35 PM on November 15, 2007
explain it to us public, please. Does it apply in this case?
posted by garlic at 1:37 PM on November 15, 2007
posted by garlic at 1:37 PM on November 15, 2007
What's the difference between CDOs on corporate debt and CDOs on mortgages? Are they actually bundled seperately?
Your use of "CDOs on" instead of "CDOs of" makes me think you might be confusing two distinct things.
CDO = Collateralized Debt Obligation: a pool of securities acts as the collateral for a series of bonds. These pools of securites may be mortgages, corporate bonds/loans, leases, etc. In nearly all cases, any individual CDO (which backs a series of bonds ranging across the ratings spectrum from AAA down to CCC/equity) is only collateralized by a pool of one type of security (so you wouldn't see residential mortgages mixed in with corporate bonds).
CDS = Credit Default Swap: a security similar to an insurance policy. The buyer agrees to pay the seller a stream of payments in exchange for the seller's agreement to compensate the buyer for losses in the principal value of a reference security. The reference security can be an individual corporate bond or it can be an MBS/CDO bond. There are all sorts of exotic things you can do with CDS--create synthetic CDOs, for example, but that's beyond the scope of this discussion.
The market for corporate CDO/CLOs (where L=loans) has been basically shut down since the sub-prime melt down. That is why some of the larger private equity deals were put on hold or called off entirely--without an active CLO market, there are fewer buyers of the debt needed to finance large leveraged buyouts. A few of the big investment banks have had to write down bonds/loans they had underwritten prior to the credit crunch. But the scale of the write downs are a fraction of the sub-prime mortgage write downs, so it hasn't received as much press.
One could make an analogy between sub-prime lending practices and the lending practices that have prevailed in the leverage buyout/leverage recapitalization market over the last 3-4 years. There are two differences that give me some comfort: (1) US companies save at much greater rate than US citizens and (2) the private equity firms that have sponsored these deals have incentives to keep their investments solvent and these firms have raised so much private capital in the last few years that it is likely they may purchase the debt or clean up the balance sheets of their own troubled companies. However, I wouldn't call myself a bull in this market.
posted by mullacc at 1:57 PM on November 15, 2007 [3 favorites]
Your use of "CDOs on" instead of "CDOs of" makes me think you might be confusing two distinct things.
CDO = Collateralized Debt Obligation: a pool of securities acts as the collateral for a series of bonds. These pools of securites may be mortgages, corporate bonds/loans, leases, etc. In nearly all cases, any individual CDO (which backs a series of bonds ranging across the ratings spectrum from AAA down to CCC/equity) is only collateralized by a pool of one type of security (so you wouldn't see residential mortgages mixed in with corporate bonds).
CDS = Credit Default Swap: a security similar to an insurance policy. The buyer agrees to pay the seller a stream of payments in exchange for the seller's agreement to compensate the buyer for losses in the principal value of a reference security. The reference security can be an individual corporate bond or it can be an MBS/CDO bond. There are all sorts of exotic things you can do with CDS--create synthetic CDOs, for example, but that's beyond the scope of this discussion.
The market for corporate CDO/CLOs (where L=loans) has been basically shut down since the sub-prime melt down. That is why some of the larger private equity deals were put on hold or called off entirely--without an active CLO market, there are fewer buyers of the debt needed to finance large leveraged buyouts. A few of the big investment banks have had to write down bonds/loans they had underwritten prior to the credit crunch. But the scale of the write downs are a fraction of the sub-prime mortgage write downs, so it hasn't received as much press.
One could make an analogy between sub-prime lending practices and the lending practices that have prevailed in the leverage buyout/leverage recapitalization market over the last 3-4 years. There are two differences that give me some comfort: (1) US companies save at much greater rate than US citizens and (2) the private equity firms that have sponsored these deals have incentives to keep their investments solvent and these firms have raised so much private capital in the last few years that it is likely they may purchase the debt or clean up the balance sheets of their own troubled companies. However, I wouldn't call myself a bull in this market.
posted by mullacc at 1:57 PM on November 15, 2007 [3 favorites]
Could some smart money-person out this into layman's terms?
And what would the impact on Joe Public be?
posted by BobFrapples at 1:59 PM on November 15, 2007
And what would the impact on Joe Public be?
posted by BobFrapples at 1:59 PM on November 15, 2007
CDO is short for collateralized debt obligation. The CDO manager sells bonds to investors...those bonds are carved into pieces called tranches. The tranches are divided up by seniority or claim on underlying assets. The tranches that have the first claim are sold at the lowest yield (interest rate) and so on. The proceeds of the bond sale are invested in a portfolio of assets that has strict rules set by the rating agencies on its composition and diversity. Those assets can be almost any kind of fixed obligation...mortgages, car loans, credit card loans, lease receivables, or corporate debt. David Bowie raised a pile of money by selling a stream of future royalties. As the assets in the portfolio pay interest and mature the proceeds are used to pay the interest on and repay the bonds used to finance the portfolio. The income is distributed in a waterfall with the most senior tranches getting paid first and the residual or equity piece getting paid last. The bet here is that you can assemble of collection of risky assets financed with low cost debt and that the excess return from the higher coupons in the portfolio will exceed any losses due to defaults. Those excess returns flow to the equity after all the loans are repaid.
CDS (credit default swaps) are a form of insurance on a debt instrument. It is effectively a put on a particular security in case the issuer of the security defaults on the bond or loan. CDS provides liquidity in markets where the actual assets may not trade very often or allows owners of debt instruments to hedge their risk in cases where they can't or don't want to actually sell the loans.
posted by cyclopz at 2:00 PM on November 15, 2007 [2 favorites]
CDS (credit default swaps) are a form of insurance on a debt instrument. It is effectively a put on a particular security in case the issuer of the security defaults on the bond or loan. CDS provides liquidity in markets where the actual assets may not trade very often or allows owners of debt instruments to hedge their risk in cases where they can't or don't want to actually sell the loans.
posted by cyclopz at 2:00 PM on November 15, 2007 [2 favorites]
Heh...or what mullacc just said. Grade F for failure to use preview.
Mullacc's comment on the LBO sponsor's vested interest the solvency of their portfolio companies is an important one. Defaults on the debt of those LBOs damages or wipes out the equity investment. The enormous pools of capital the sponsors have raised are already being put to work buying corporate debt through the firms Credit Opportunity Funds.
posted by cyclopz at 2:08 PM on November 15, 2007
Mullacc's comment on the LBO sponsor's vested interest the solvency of their portfolio companies is an important one. Defaults on the debt of those LBOs damages or wipes out the equity investment. The enormous pools of capital the sponsors have raised are already being put to work buying corporate debt through the firms Credit Opportunity Funds.
posted by cyclopz at 2:08 PM on November 15, 2007
And what would the impact on Joe Public be?
Depends on the Joe. If it's a Joe who works for a company that is owned by private equity firm, it could be big trouble. Because of the unprecedent credit market conditions over the last few years, private equity firms have been able to make their money by either selling their portfolio companies to the next larger private equity firm or just refinancing the company and pulling out big dividends. If the big credit cookie jar is sealed shut, private equity firms will start cutting more costs at their portfolio companies to free up the cash necessary to service the debt. Cost cutting means firing Joe Public.
But of course only a small number of companies have been acquired through leveraged buyouts. But, you know, if your company sells to or buys from a leveraged company your fates are intertwined, to a degree.
posted by mullacc at 2:24 PM on November 15, 2007
Depends on the Joe. If it's a Joe who works for a company that is owned by private equity firm, it could be big trouble. Because of the unprecedent credit market conditions over the last few years, private equity firms have been able to make their money by either selling their portfolio companies to the next larger private equity firm or just refinancing the company and pulling out big dividends. If the big credit cookie jar is sealed shut, private equity firms will start cutting more costs at their portfolio companies to free up the cash necessary to service the debt. Cost cutting means firing Joe Public.
But of course only a small number of companies have been acquired through leveraged buyouts. But, you know, if your company sells to or buys from a leveraged company your fates are intertwined, to a degree.
posted by mullacc at 2:24 PM on November 15, 2007
So how do we as investors without $500K benefit from this? i.e. what can we buy on Ameritrade?
posted by UMDirector at 2:44 PM on November 15, 2007
posted by UMDirector at 2:44 PM on November 15, 2007
Could some smart money-person out this into layman's terms?
*slits cockerels throat, pours blood into chalice, spits rum onto black flowers, lights three candles, throws bones onto table*
*consults bones*
It means that someone is fucked.
posted by quin at 2:46 PM on November 15, 2007 [11 favorites]
*slits cockerels throat, pours blood into chalice, spits rum onto black flowers, lights three candles, throws bones onto table*
*consults bones*
It means that someone is fucked.
posted by quin at 2:46 PM on November 15, 2007 [11 favorites]
Don't they realize that you can always bet on Chuck Norris? Somethings are forever.
posted by blue_beetle at 2:58 PM on November 15, 2007
posted by blue_beetle at 2:58 PM on November 15, 2007
UMDirector -- don't get your stock tips from MeFi, or any other website.
posted by garlic at 3:08 PM on November 15, 2007
posted by garlic at 3:08 PM on November 15, 2007
>> "Past performance is no guarantee of future success."
>
> I don't think you really understand what that statement is meant to mean.
It's of a piece with all the other batteries not included disclaimers down there in the flyspeck-condensed print, along with "This advertisement is neither an offer to sell nor a solicitation of an offer to buy. That offer is made only through the prospectus." It means "We can hint at, flirt with, and imply as many outrageous promises of McDuck-like wealth as we want to, and this magic phrase means you can't hold us accountable when the balloon goes pfffft."
posted by jfuller at 4:38 PM on November 15, 2007
>
> I don't think you really understand what that statement is meant to mean.
It's of a piece with all the other batteries not included disclaimers down there in the flyspeck-condensed print, along with "This advertisement is neither an offer to sell nor a solicitation of an offer to buy. That offer is made only through the prospectus." It means "We can hint at, flirt with, and imply as many outrageous promises of McDuck-like wealth as we want to, and this magic phrase means you can't hold us accountable when the balloon goes pfffft."
posted by jfuller at 4:38 PM on November 15, 2007
It brightens my day to hear that people are making money from this debacle.
posted by Skorgu at 4:53 PM on November 15, 2007
posted by Skorgu at 4:53 PM on November 15, 2007
"So how do we as investors without $500K benefit from this? i.e. what can we buy on Ameritrade?"
GLD and SLV. Everything else is gambling at this point.
With real inflation above 10% annually you'd have to have some really magic stocks to even break even.
posted by Sukiari at 5:08 PM on November 15, 2007
GLD and SLV. Everything else is gambling at this point.
With real inflation above 10% annually you'd have to have some really magic stocks to even break even.
posted by Sukiari at 5:08 PM on November 15, 2007
shadowstats.com
Sorry. Check it out. He puts together the pieces in an honest way.
posted by Sukiari at 5:09 PM on November 15, 2007
Sorry. Check it out. He puts together the pieces in an honest way.
posted by Sukiari at 5:09 PM on November 15, 2007
Don't they realize that you can always bet on Chuck Norris? Somethings are forever.
posted by blue_beetle
Norris for Huckabee.
posted by Balisong at 6:10 PM on November 15, 2007
GLD and SLV. Everything else is gambling at this point.
Ha! There's no bigger gamble than precious metals.
posted by smackfu at 7:14 AM on November 16, 2007
Ha! There's no bigger gamble than precious metals.
posted by smackfu at 7:14 AM on November 16, 2007
public: SCDB's comment was perfectly appropriate. This story is no different than : "Two craps players who won big on the 'DON'T PASS' bar plan to bet on 'HARD 8' next".
posted by rocket88 at 7:32 AM on November 16, 2007 [1 favorite]
posted by rocket88 at 7:32 AM on November 16, 2007 [1 favorite]
"Ha! There's no bigger gamble than precious metals."
No gamble at all right now. As our dollar tanks, precious metals go up. Do you see some magical new source of exports, or a reversal of the situation we now have? Hell, dumbass Ben Bernake is going to lower interest rates again! It's almost as if he wants to destroy the dollar.
posted by Sukiari at 11:31 PM on November 19, 2007
No gamble at all right now. As our dollar tanks, precious metals go up. Do you see some magical new source of exports, or a reversal of the situation we now have? Hell, dumbass Ben Bernake is going to lower interest rates again! It's almost as if he wants to destroy the dollar.
posted by Sukiari at 11:31 PM on November 19, 2007
Where do you Ron Paul/gold standard trolls come from? Christ. Do they grow you in a test tube somewhere with someone reading Ayn Rand novels to you?
posted by mullacc at 11:50 PM on November 19, 2007
posted by mullacc at 11:50 PM on November 19, 2007
No, it's just that you folks with your fake experimental worthless money that fails horribly had your turn. It was a fun academic experiment, initiated in 1913, phase 2 was 1974, and now phase 3 is "the dollar will become the new Peso."
I guess it's better to come out of a test tube than whatever orifice you little greenshirts came out of.
posted by Sukiari at 5:07 PM on November 28, 2007
I guess it's better to come out of a test tube than whatever orifice you little greenshirts came out of.
posted by Sukiari at 5:07 PM on November 28, 2007
Of course modern currency has no intrinsic worth -- if it did we'd be back to using a basic barter system.
posted by garlic at 8:16 AM on November 29, 2007
posted by garlic at 8:16 AM on November 29, 2007
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posted by public at 1:29 PM on November 15, 2007