Collateralized Debt Obligations, Collateralized Bond Obligations, and Collateralized Loan Obligations

Abstract

Collateralized debt obligations (CDOs) are structured products that are issued by a special purpose vehicle with the objective of improving the issuer’s balance sheet, increasing access to illiquid securities, and/or generating a higher yield than would be offered in a traditional fixed income security. This chapter provides an overview of CDOs including a discussion on the history, structure, uses, and impact on investors and the broader financial system. CDOs can be further classified by the type of security held as collateral, such as collateralized bond obligations (CBOs), which typically hold high yield debt, and collateralized loan obligations (CLOs), which hold bank loans. These financial structured products gain notoriety for their role in the financial crisis of 2007–2008 and have since declined in popularity. Despite the negative perception that CDOs carry, securitization continues to play an important function in the financial system and offers benefits to issuers and consumers as long as both parties use the end product responsibly.