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JP Morgan CDO Handbook

JP Morgan CDO Handbook

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Published by Foreclosure Fraud
Foreclosure Fraud

Overview
Structured Finance (SF) CDOs are leveraged investment vehicles that invest
primarily in the senior and mezzanine tranches of structured products (ABS,
RMBS, CMBS, and CDOs). They utilize the same technology as traditional
credit CDOs with the only difference being their underlying collateral.
SF CDOs issue securities to fund the purchase of collateral or assume risk
synthetically via credit derivatives.
Highlights
• SF CDOs are designed to exploit arbitrage opportunities by taking advantage
of liquidity/complexity premiums and the credit curve, to be a source of
funding, or to manage balance sheet exposures. They have been growing
as a portion of total CDO issuance.
• Overall, the SF CDO underlying collateral makeup largely mirrors the
structured products market. Some adjustments are made to enhance arbitrage.
• Structured product collateral offers a spread pick-up, lower event risk, and
comparable default/recovery rates versus like-rated corporates, as well as
diversification opportunities.
• Rating agency structured product default and recovery assumptions are
conservative compared with actual collateral performance.
• SF CDOs have several variables, including quality of collateral (AAA/AA or
BBB) and form of exposure (cash or synthetic). Each type has unique
structural features.
• Manager/issuer selection is critical in both actively managed and static deals.

4closureFraud
Foreclosure Fraud

Overview
Structured Finance (SF) CDOs are leveraged investment vehicles that invest
primarily in the senior and mezzanine tranches of structured products (ABS,
RMBS, CMBS, and CDOs). They utilize the same technology as traditional
credit CDOs with the only difference being their underlying collateral.
SF CDOs issue securities to fund the purchase of collateral or assume risk
synthetically via credit derivatives.
Highlights
• SF CDOs are designed to exploit arbitrage opportunities by taking advantage
of liquidity/complexity premiums and the credit curve, to be a source of
funding, or to manage balance sheet exposures. They have been growing
as a portion of total CDO issuance.
• Overall, the SF CDO underlying collateral makeup largely mirrors the
structured products market. Some adjustments are made to enhance arbitrage.
• Structured product collateral offers a spread pick-up, lower event risk, and
comparable default/recovery rates versus like-rated corporates, as well as
diversification opportunities.
• Rating agency structured product default and recovery assumptions are
conservative compared with actual collateral performance.
• SF CDOs have several variables, including quality of collateral (AAA/AA or
BBB) and form of exposure (cash or synthetic). Each type has unique
structural features.
• Manager/issuer selection is critical in both actively managed and static deals.

4closureFraud

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Published by: Foreclosure Fraud on Nov 08, 2009
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Structured Finance CDO Handbook
Global Structured Finance ResearchCDO Research
J.P. Morgan Securities Inc.New YorkFebruary 19, 2004
www.morganmarkets.com
Contents
Overview 2Whats In an SF CDO? 3SF CDO Assets: 101 12Does SF Collateral Work for CDOs? 24SF CDO Structure 32Should SF CDOs be Managed or Static? 44SF CDO Rating Methodologies 48Appendix A: Rating Transition Matrices 51Appendix B: Rating Agency Classificationof Structured Products 53Appendix C: SF CDOs fromSeasoned Issuers54
Christopher Flanagan
AC
(1-212) 270-6515christopher.t.flanagan@jpmorgan.com
Rishad Ahluwalia (London)
(44-207) 777-1045rishad.ahluwalia@jpmorgan.com
Ryan Asato
(1-212) 270-0317ryan.asato@jpmorgan.com
Benjamin J. Graves
(1-212) 270-1972benjamin.j.graves@jpmorgan.com
Edward Reardon (London)
(44-207) 777-1260edward.j.reardon@jpmorgan.com
The certifying analyst(s) is indicated by a superscript AC. See last page of thereport for analyst certification and important legal and regulatory disclosures.
Overview
Structured Finance (SF) CDOs are leveraged investment vehicles that investprimarily in the senior and mezzanine tranches of structured products (ABS,RMBS, CMBS, and CDOs). They utilize the same technology as traditionalcredit CDOs with the only difference being their underlying collateral.SF CDOs issue securities to fund the purchase of collateral or assume risksynthetically via credit derivatives.
Highlights
SF CDOs are designed to exploit arbitrage opportunities by taking advantageof liquidity/complexity premiums and the credit curve, to be a source of funding, or to manage balance sheet exposures. They have been growingas a portion of total CDO issuance.Overall, the SF CDO underlying collateral makeup largely mirrors thestructured products market. Some adjustments are made to enhance arbitrage.Structured product collateral offers a spread pick-up, lower event risk, andcomparable default/recovery rates versus like-rated corporates, as well asdiversification opportunities.Rating agency structured product default and recovery assumptions areconservative compared with actual collateral performance.SF CDOs have several variables, including quality of collateral (AAA/AAorBBB) and form of exposure (cash or synthetic). Each type has uniquestructural features.Manager/issuer selection is critical in both actively managed and static deals.
Chart 1
Structural Overview of a Typical SF CDO
Source: J.P. Morgan Securities.
AAAAEquityBBBAA
CDO SPVABSRMBSCMBSCDOsAsset Manageror IssuerTrustee &CustodianHedgeCounterpartiesAsset PoolCDO Liabilities
 
February 19, 2004
Global Structured Finance ResearchCDO ResearchAnalyst
Structured Finance CDO HandbookChristopher Flanagan
 AC
christopher.t.flanagan@jpmorgan.com2
Overview
SF CDOs have been growing as a portion of total CDO issuance in both the US(currently about 45% of total) and Europe (currently about 20% of total).SF CDOs offer a spread pick-up to most like-rated securities. This pick-up can beattributed to liquidity, complexity, and a new asset class premium.
Table 1
Spread to Swaps/Libor (bp)*
5-8 Yr10 Yr10 YrUK 5 Y7-12 YrIG Syn 6-10 YrRMBS 10 Yr 3-5 Yr Floating Sterling 10 ySF CDOCDOHY CLOJumboCMBSHELCardsRMBSIndustrial
AAA60**704630251815-8AA125125901003850346A175175140120451056128BBB3753752651758817010510760
*As of 1 February 2004.**Indicative weighted average AAAspread for traditional SF CDO.Source: JPMS.
This spread pick-up, as well as the opportunity to diversify exposures, is attracting a growing investor base, which varies by position in the SF CDO capital structure.Senior investors include banks, conduits, SIVs, and finance companies. Equityinvestors are typically banks, pension funds, endowments, private banks, insurancecompanies, fund managers, and hedge funds.SF CDO asset managers are keen to become involved in this market as a way toincrease assets under management, build their franchise, and receive fee income. Onthe other hand, balance sheet transactions can enable entities to reduce economic andregulatory capital, manage credit risk, and achieve long term funding.
Chart 2
Funded CDO Issuance: 1996-2003*
US
$ Billion (bar graph) % SF CDO (black line)
Europe
$ Billion (bar graph)% SF CDO (black line)
*Funded issuance includes all cash issuance and the funded (i.e. non super senior) portion of synthetics.Source: JPMS, IFR Markets, MCM, Bloomberg, CreditFlux.
0102030405060708090199619971998199920002001200220030%5%10%15%20%25%30%35%40%45%
051015202530351996 1997 1998 1999 2000 2001 2002 20030%5%10%15%20%25%
SF CDOs are Growingas a Percentage of Total CDO IssuanceSF CDOs Offer a SpreadPick-Up to Most LikeRated SecuritiesGrowing Cadre of Market Participants
 
3February 19, 2004
Global Structured Finance ResearchCDO ResearchAnalyst
Structured Finance CDO HandbookChristopher Flanagan
 AC
christopher.t.flanagan@jpmorgan.com
Whats In an SF CDO?
SF CDOs source collateral from several distinct sectors of the broader structuredproducts market, including CMBS, RMBS, CDOs, ABS, and REITs. Collateralcomposition varies by deal, with individual deals sourcing from 0% to 100% of theircollateral from each of the above sectors. Several factors, including asset managerexperience, issuance volume, region, and arbitrage opportunity influence collateralcomposition. Despite differences between deals, US/European SF CDOs can bebroadly characterized into two sub-sectors
1
.
Real Estate SF CDO:
Greater than 60% of collateral is backed by residential orcommercial real estate (RMBS, CMBS, or REITs). In 2003, Real Estate CDOsaccounted for approximately 45% of funded SF CDO volume.
Diversified SF CDO:
Also referred to as multisector or ABS CDOs. Dealsin this category consist of a diversified mix of structured finance assets and, assuch, dont exhibit asset concentration (in Real Estate) described above. In 2003,Diversified CDOs accounted for approximately 55% of funded SF CDO volume.In addition to the two broad categoriesabove, SF CDOs may be distinguishedby several other characteristics, includ-ing: Cash/Synthetic, Arbitrage/BalanceSheet, or US/Europe. Chart 4 to Chart 9on the following page show the aggre-gate collateral composition (ConsumerABS, Commercial ABS, RMBS, CMBS,CDO, REIT) for deals completed in2003. Chart 10 to Chart 14 detail thecollateral breakdown within each of theaforementioned sectors. We stress, how-ever, that
different types of SF CDOshold these underlying asset classes inmaterially different proportions.
Chart 3
2003 SF CDO Collateral Distribution (total)
Source: JPMS, IFR Markets, MCM, S&P, Fitch, Moodys.
CDO15%CMBS19%Consumer ABS16%Other ABS2%Corp ABS6%REIT3%RMBS39%
SF CDOs can be classifiedas Real Estate or Diversified
SF CDO Sectors - Some Definitions
CDO:
CLO, CBO, SF CDO, IG Synthetic CDO, Small-to-Medium Entity CDO, Other CDO
CMBS:
Conduit, Large Loan, Credit Tenant Lease
Consumer ABS:
Student Loan, Auto, Card, Consumer Loan
Corporate ABS:
Equipment, Health Care, Small Business Loan, Structured Settlement, Aircraft,Aerospace, Trade Receivables, Franchise
REIT:
Unsecured corporate debt of company that invests in Regional Malls, Shopping Centers, OfficeBuildings, Warehouses
RMBS:
Prime* (Jumbo, Alt A), Home Equity (Subprime or B/C, 2nd Lien), NIMS, ManufacturedHousing, Prime European Mortgages (UK, Netherlands, Spain, Italy, Portugal)
*Note: Prime RMBS also traditionally includes the conforming Agency (Fannie Mae, Freddie Mac) paper, which is out of the scopeof this paper because it is guaranteed and not typically included in SF CDOs.
1. CDOs-of-CDOs (majority of collateral is tranches of other CDOs) can also be considered SF CDOs, but theyare beyond the scope of this paper.

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