I read that before the financial crisis of 2007 the CDOs were so complex that investors could not analyze them. Were they just complex, or was there no public information about what they contained?

Also, in The Big Short movie, Michael Burry analyzes those CDOs before deciding to short them. Where could he get such information?


They ranged from somewhat complex to highly complex. Ultimately though, a CDO like any bond contract, is just a legal document outlining a waterfall of cash flows based on ratings triggers, collateralization levels, defaults etc. So as long as you read the document carefully it's more legal than financial to run a series of cash flow scenarios (in whatever complex or simple way you choose to generate them) through the structure. But they were all bespoke, yet often similar enough, that i think many people didn't pay enough attention to the minutiae. Also, typically a CDO was initiated by a hedge fund, un or similar who would own the riskier tranches like the equity, with the more secure tranches going to Asset Managers/Pensions and Insurance companies. So you're now dealing with a complex highly nuanced waterfall structured by the owner of the riskiest tranche.

  • $\begingroup$ When you analyze something that many people have already analyzed and are enthusiastically buying it is difficult to be as objective and thorough as one would want. It takes a special kind of person and the movie does a reasonable job of portraying Burry as a rather weird individual (playing drums loudly in his office etc., he does not care what other people think. Such people are rare). That said the information was somewhat lacking. $\endgroup$
    – Alex C
    Aug 20 '19 at 12:17
  • $\begingroup$ Honestly: if something is rated AAA and your boss is already inclined to buy it, how thorough an analysis would you do? $\endgroup$
    – Alex C
    Aug 20 '19 at 12:27
  • 1
    $\begingroup$ true about the boss for sure. However, you do get a copy of the indenture and if you want to analyze and price the deal it has to be modeled correctly and you would have to set that up yourself. I know because they made me do it! $\endgroup$ Aug 20 '19 at 12:45

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