The material on this site is for financial institutions, professional investors and their professional advisers. It is for information only. Please read our Terms & Conditions, Privacy Policy and Cookies before using this site. Please see our Subscription Terms and Conditions.

All material subject to strictly enforced copyright laws. © 2021 Euromoney, a part of the Euromoney Institutional Investor PLC.
Capital Markets

Correlation trading: Upheaval tests the resilience of structured credit markets

The unwinding of correlation model price-driven trades has caused losses, but the credit markets have withstood the post-GM fallout

Structured credit's fastest growing sectors, credit indices and synthetic CDOs, were the victims of a painful dislocation in May in the wake of the downgrades of General Motors and Ford [see this month's cover story, The worm of doubt]. Correlation model price driven trades, which have been highly popular of late, went wrong for dealers and many players in the leveraged community.

"All credit tranche products (like CDOs) have option-like elements in them," says Hyun Shin, professor of finance at London School of Economics (LSE). "As options, their prices move as the price of the underlying asset moves. Being long an option gives you the gains while limiting your loss – but, of course, you pay up-front for the privilege.

"Hedge funds were going long some tranches and short other tranches with the net effect that they were being paid up-front for writing these options. However, writing options can be a mug's game. As the rather crude City saying goes, with such a strategy, 'you eat like sparrows, but shit like elephants'," Shin says.

Investors, instead of creating a credit portfolio consisting of cash bonds, have for some time been able to take positions by using credit derivatives, such as credit default swaps.

You have reached premium content. Please log in to continue reading.

Read beyond the headlines with Euromoney

For over 50 years, our readers have looked to Euromoney to stay informed about the issues that matter in the international banking and financial markets. Find out more about our different levels of access below.


Unlimited access to and

Expert comment, long reads and in-depth analysis interviews with senior finance professionals

Access the results of our market-leading annual surveys across core financial services

Access the results of our annual awards, including the world-renowned Awards for Excellence

Your print copy of Euromoney magazine delivered monthly

£73.75 per month

Billed Annually


Unlimited access to and, including our top stories, long reads, expert analysis, and the results of our annual surveys and awards

Sign up to any of our newsletters, curated by our editors


Already a user?

We use cookies to provide a personalized site experience.
By continuing to use & browse the site you agree to our Privacy Policy.
I agree