Tuesday, March 3, 2009

Now We All Own Mezzanine CDO

The Mother Of All CDOs

What's that recent deal that the UK Treasury has just done with RBS? It looks scarily familiar...something to do with $325 billion of toxic assets (no doubt including a few CDOs and CDO^2s) and divvying up different levels of risk? The balance sheet of RBS is £2.3 trillion. In return for £6.5 billion in some dodgy non-voting shares the UK Treasury is going to be insuring some of that £2.3 trillion. The first £19.5 billion is RBS's responsibility, after that the taxpayer takes care of 90% of the rest of the $325 billion. Sound familiar? Yes, the UK Treasury has just got itself the mezzanine tranche of a CDO!

Posted by 51ck-6-51x @ 05:58 PM (1122 views)
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9 thoughts on “Now We All Own Mezzanine CDO

  • The mezzanine tranche is the most sensitive to default correlation – and not in the ‘good’ direction.

    And it gets worse, as Paul notes in his observations.

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  • refusetobuy says:

    “3. Worst of all, the premium paid to the UK Taxpayer is £6.5 billion in RBS shares. Of course, if things go wrong, as they probably will, then that premium will plummet as the RBS share price plummets. Note to Lord Myners, Alistair Darling and Gordon Brown: When you buy insurance on company X, buy it from company Y, not company X itself. ”

    More like, when you receive an insurance premium, you don’t invest it back in the business you are insuring. But I’ll forgive him because it’s still an excellent point.

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  • “Nationalize all dangerous banks, across the globe, immediately. Guarantee the deposits of the man in the street. And clean up the mess in an atmosphere of relative stability.”

    Sounds easy enough. Do it. Problem solved.

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  • I like the advert at the top of the page for mezzanine floors. I think I might get one.

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  • Cheer up UK Tax payers at least we aren’t on the hook for AIG.

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  • peter rocker says:

    I think the CDO analogy is a bit of a push:
    a)The government is not investing as it would if it were buying a tranche of a CDO. It is receiving a premium for writing an insurance policy, as it says it is!
    b)The CDO vehicle, in the analogy RBS, would not normally share losses on the tranche the investor bought.
    c)There are no regular coupons paid to the government as a result of this transaction – just an upfront premium.

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  • peter rocker –
    a) The government is receiving premium for providing protection, just like they would with a synthetic CDO.
    b) A CDO vehicle would usually keep the most junior tranche, in this case RBS has the junior and senior, the government are holding the mezzanine.
    c) Nope, no regular premiums, so even worse then.

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  • cyril – love it! Maybe the treasury should consider buying a mezzanine floor – maybe AIG could provide it ;p

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  • peter rocker says:

    51ck-6-51x –
    a)The article doesn’t mention that the CDO would be synthetic.
    b)I don’t believe there is a ‘senior tranche’ for the analogy – after the ‘junior tranche’, losses are divided between the government and RBS pro-rata, with the government taking 90% of the loss. So there is only a ‘junior tranche’ and ‘another tranche’. That isn’t a normal CDO structure.

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