Structured Finance and the Social Contract: How Tranching Challenges Contractualist Approaches to Financial Risk

2018 ◽  
Vol 29 (1) ◽  
pp. 1-24 ◽  
Author(s):  
Tobey Scharding
Keyword(s):  
Financial Risk ◽  
Contract Theory ◽  
Third Parties ◽  
Individual Risk ◽  
Collateralized Debt Obligations ◽  
Structured Finance ◽  
Financial Products ◽  
Systemic Risks ◽  
Collateralized Debt ◽  
Structured Financial Products

ABSTRACT:Many ethicists argue that contract theory offers the most promising strategy for regulating risks. I challenge the adequacy of the contractualist approach for evaluating the complicated, novel risks associated with some structured financial products, particularly focusing on risks to third parties. Structured financial products like collateralized debt obligations (CDOs) divide a pool of financial assets into risk “tranches” organized from least to most risky. Investors purchase various tranches based on their individual risk-and-return preferences. Whereas contract theory holds that investment risks are ethically permitted (roughly) when everyone—including both parties directly involved in the investments and third parties—consents to them, structured financial products like CDOs show that even risks to which everyone consents are ethically problematic when they involve systemic risks of ruin.

Structured Finance and Mark-to-Model Accounting: A Few Simple Illustrations

2011 ◽  
Vol 25 (3) ◽  
pp. 559-576 ◽  
Author(s):  
Anthony Meder ◽  
Steven T. Schwartz ◽  
Eric E. Spires ◽  
Richard A. Young
Keyword(s):  
Accounting Information ◽  
Accounting Standards ◽  
Cash Flows ◽  
Structured Finance ◽  
Numerical Examples ◽  
Current Accounting ◽  
Economic Fundamentals ◽  
Financial Products ◽  
Future Cash Flows ◽  
Structured Financial Products

SYNOPSIS We review the development of structured financial products, discuss their accounting treatment, and illustrate their valuation using simple numerical examples. The crucial element we incorporate is the possibility that the underlying assets in structured financial products have correlated returns. The benefit of structured finance is it uses diversification to protect the senior tranches' cash flows. However, when the underlying assets have correlated returns diversification is not as effective. Normally, structured financial products would be marked “to market,” obviating the need for analytical valuation techniques. Current accounting standards, however, have significant provisions for valuing structured financial products based on analytically derived expectations of future cash flows, especially when markets are illiquid. Therefore, it is important for both preparers and users of accounting information to understand how underlying economic fundamentals, such as the correlation in returns, affect expectations of future cash flows.

scholarly journals How financial products organize spatial networks: Analyzing collateralized debt obligations and collateralized loan obligations as “networked products”

2021 ◽  
pp. 0308518X2110296
Author(s):  
Jonathan Beaverstock ◽  
Adam Leaver ◽  
Daniel Tischer
Keyword(s):  
Financial Networks ◽  
Regulatory Regime ◽  
Collateralized Debt Obligations ◽  
The Us ◽  
Collateralized Debt Obligation ◽  
Role Based ◽  
Collateralized Debt ◽  
Collateralized Loan Obligation ◽  
Debt Obligation ◽  
Peak Value

During the 2010s, collateralized loan obligations rapidly became a trillion-dollar industry, mirroring the growth profile and peak value of its cousin—collateralized debt obligations—in the 2000s. Yet, despite similarities in product form and growth trajectory, surprisingly little is known about how these markets evolved spatially and relationally. This paper fills that knowledge gap by asking two questions: how did each network adapt to achieve scale at speed across different jurisdictions; and to what extent does the spatial and relational organization of today's collateralized loan obligation structuration network, mirror that of collateralized debt obligations pre-crisis? To answer those questions, we draw on the global financial networks approach, developing our own concept of the networked product to explore the agentic qualities of collateralized debt obligations and collateralized loan obligations—specifically how their technical and regulatory “needs” shape the roles and jurisdictions enrolled in a global financial network. We use social network analysis to map and analyze the evolving spatial and relational organization that nurtured this growth, drawing on data harvested from offering circulars. We find that collateralized debt obligations spread from the US to Europe through a process of transduplication—that similar role-based network relations were reproduced from one regulatory regime to another. We also find a strong correlation between pre-crisis collateralized debt obligation- and post-crisis collateralized loan obligation-global financial networks in both US$- and €-denominations, with often the same network participants involved in each. We conclude by reflecting on the prosaic way financial markets for ostensibly complex products reproduce and the capacity for network stabilities to produce market instabilities.

scholarly journals Profit and Risk under Subprime Mortgage Securitization

2011 ◽  
Vol 2011 ◽  
pp. 1-64 ◽  
Author(s):  
M. A. Petersen ◽  
J. Mukuddem-Petersen ◽  
B. De Waal ◽  
M. C. Senosi ◽  
S. Thomas
Keyword(s):  
Risk Mitigation ◽  
Collateralized Debt Obligations ◽  
Mortgage Loans ◽  
Main Hypothesis ◽  
Subprime Mortgage ◽  
Important Indicator ◽  
Residential Mortgage ◽  
Maturity Mismatch ◽  
Mortgage Securitization ◽  
Collateralized Debt

We investigate the securitization of subprime residential mortgage loans into structured products such as subprime residential mortgage-backed securities (RMBSs) and collateralized debt obligations (CDOs). Our deliberations focus on profit and risk in a discrete-time framework as they are related to RMBSs and RMBS CDOs. In this regard, profit is known to be an important indicator of financial health. With regard to risk, we discuss credit (including counterparty and default), market (including interest rate, price, and liquidity), operational (including house appraisal, valuation, and compensation), tranching (including maturity mismatch and synthetic) and systemic (including maturity transformation) risks. Also, we consider certain aspects of Basel regulation when securitization is taken into account. The main hypothesis of this paper is that the SMC was mainly caused by the intricacy and design of subprime mortgage securitization that led to information (asymmetry, contagion, inefficiency, and loss) problems, valuation opaqueness and ineffective risk mitigation. The aforementioned hypothesis is verified in a theoretical- and numerical-quantitative context and is illustrated via several examples.

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