Titel:

Constant Proportion Debt Obligations (CPDOs)


Modeling and Risk Analysis 
Forfatter:

Cont, Rama; Jessen, Cathrine 
Resume:

Constant Proportion Debt Obligations (CPDOs) are structured credit
derivatives which generate high coupon payments by dynamically leveraging
a position in an underlying portfolio of investment grade index default
swaps. CPDO coupons and principal notes received high initial credit ratings
from the major rating agencies, based on complex models for the joint
transition of ratings and spreads for all names in the underlying portfolio.
We propose a parsimonious model for analyzing the performance of
CPDO strategies using a topdown approach which captures the essential
risk factors of the CPDO. Our approach allows to compute default
probabilities, loss distributions and other tail risk measures for the CPDO
strategy and analyze the dependence of these risk measures on various
parameters describing the risk factors. We nd that the probability of
the CPDO defaulting on its coupon payments is found to be small{and
thus the credit rating arbitrarily high{ by increasing leverage, but the ratings
obtained strongly depend on assumptions on the credit environment
(high spread or low spread). More importantly, CPDO loss distributions
are found to be bimodal with a wide range of tail risk measures inside a
given rating category, suggesting that credit ratings are insu cient performance
indicators for such complex leveraged strategies. A worstcase
scenario analysis indicates that CPDO strategies have a high exposure to
persistent spreadwidening scenarios CPDO ratings are shown to be quite
unstable during the lifetime of the strategy. 
URI:

http://hdl.handle.net/10398/8890

Dato:

20140227 
Note:

Post print of Quantitative Finance, Vol. 12, No. 8, August 2012, 1199–1218 