CDO, De Ja Vu - The CLO It's More Toxic Successor

Hey JessInvestors

If you have not already seen the movie The Big Short (is available on Netflix), then I highly suggest you do so after reading this post and even come back to this post after watching it as it would help you make a whole lot more sense of what I am about to say.

In 2008, we saw the worlds biggest cash heist in modern history roll out; we called it the global financial crisis when all it was, is good old financial fraud and banking theft. At the heart of the fraud was a financial product called a CDO or collateralised debt obligation.

What is a A CDO?

A CDO is a fictitious financial product that is made up of a whole lot of other financial products. Think of it as a sausage, yes it could be pork or beef, but it's made up of a whole lot of different parts of a cow or pig or multiple cows and pigs. It's a mix of random stuff used to create a whole new thing that can be sold.

How A CDO works?

The CDO was made up of mortgage-backed security. An investment back would approach retail banks and ask them how many home loans they have on the books and at what rating and risk. The investment bank would then buy up all the loans on the bank's books and other banks until they have enough loans.

The would then wrap all the loans up into one product, and when its deemed diversified enough, the rating agencies give it a AAA trading, and it can be sold off to pension funds.

The banks creating the loans got the cash from the investment bank and the loans off their books so they free to get more loans. The investment bank takes the new product and sells it on for fat fees and the pension fund so desperate for yield takes it hoping everyone pays back their home so they can have enough money to pay those invested in their pension fund.

Why CDOs failed?

A CDO isn't the worst product in the world, but the contents in it sure got worse, to keep the profit machine going, they kept issuing out loans to riskier and risker people and as they defaulted on those loans, the CDOs failed, and the whole Ponzi goes bust.

To save those pension funds and banks on the hook as they kept passing these hot potatoes around, the government came in to bail everyone out and buy up the CDOs to put on their books which in theory would mean the taxpayer would pay off the debt over time.

Did we learn our lesson? Nope!

So instead of learning from their ways banks instead said okay homes aren't a good market to play in since people do sometimes not pay their homes and it creates housing bubbles and homes don't always generate an income.

So they turned their attention to companies; instead, I mean companies always produce cash flow, so perhaps it would work here. So what they did was grab all corporate bonds and loans group them together with government debt/securities and called it a CLO, A collateralised loan obligation.

Again, not the worst product in the world, however, profit chasing and zombie companies asking for more debt have turned it into a toxic dump, and the CLO market is primed to explode.

CLOS is made up of companies that have maxed out their borrowing and cannot sell bonds directly to investors to raise capital or qualify for traditional bank loans, they use these leveraged loans to backstop the company and keep it going even when they should be going bust.

Another trillion down the drain

There is now over $1 Trillion worth of CLOs on the market with many of the underlying loans failing due to the global lockdown.

As companies profits are shrinking they can no longer service more than the interest on their debt and are now zombie companies.

I have no doubt they way the fed is printing and looking for ways to inject capital into the system, they're going to buy up all these toxic CLOs and save the day at the expense of the people.

Have your say

What do you good people of HIVE think? Do you think banking collapse is next or will the money printing continue?

So have at it my Jessies! If you don't have something to comment, comment "I am a Jessie."

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