Collateralized Debt Obligation analysis of the behaviour during crises

Abstract

The main goal of this thesis is the analysis of a relatively new financial instrument this essay will be divided into different chapters, this examination will be separated into two primary sections. The first will examine the functioning of these derivatives from a theoretical point of view. The second will consider the empirical perspective on the behaviour of this instrument under the stress of a financial crisis. Collateralized Debt Obligation, also known as CDO was issued in the market for the first time in 1987 by the renowned investment bank Dexel Burnham Lambert Inc., evolving through time into a contagion-spreading derivative that triggered the global financial crisis. CDOs played a primary role in the transformation from the American housing market's collapse into a catastrophic financial failure and a global credit crunch. Responsible for a loss of 542$ billion, CDO performed poorly during the crisis due to the inclusion of low-grade quality collateral originating in 2006 and 2007. Credit and investment banks created a market worth hundreds of millions of dollars based exactly on these types of instruments. An enormous boost to the responsibility of this and many other financial instruments was given by the fallacy and sometimes egoistic opinion of the credit agencies. As mentioned above this thesis will indeed analyse the behaviour of both in a theoretical way and an empirical way the behaviour of this financial instrument.