According to me, one of the most intriguing contract types invented over the last 2-3 years is the CPDO. I admit that I do not fully understand it but despite that I have used it (perhaps not entirely fairly) over and over again as an example of how the “credit innovation game” perhaps has gone too far. I mean, who would have bought these (AAA!) contracts with their own money? I wouldn’t have touched them. And the reason is not that I am sure that they are mispriced but simple that anything that sounds too good to be true (AAA-rating together with junk bond spreads…) simply isn’t true….
I saw that Moody’s recently (23 Nov) downgraded a CPDO sold by UBS nine notches. I am not sure, but I think this might be the start of a series of such downgrades.
Below I attach a nice CPDO description that I saw somewhere and that I e-mailed to a credit-structurer friend already back in 2006 to show my opinion on these contracts. Have fun!
A CPDO
“Dear Sir/Madam, your details were provided by someone who is assuring me of your honesty and integrity for an Urgent Business Proposal in Confidence of the Strictest Nature. I am the sales director of the Democratic Republic of Derivatives. Unbeknownst to my colleagues, I have discovered millions of dollars hidden in an unexplored corner of the republic in the form of Constant Proportion Debt Obligations, or CPDOs. I seek your assistance in unlocking this value for the benefit of both of us.'’