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Capital Markets

Structured finance: JPMorgan, Lehman at vanguard of CPDOs

Cairn Capital is on the road marketing the first managed constant proportion debt obligation. The deal, which is structured by JPMorgan, seeks to offer investors an improvement on static CPDOs and is proof of the rapid evolution in the product.

Investors say that Cairn – an asset manager set up by former JPMorgan banker Tim Frost – believes that it can add value by managing the roll, and by not being fully levered at launch. The early versions of CPDOs start with 15 times leverage. The concern of some is that when the credit market deteriorates there could be substantial mark-to-market downside. These deals should perform fine in a mean-reverting scenario but might not otherwise.

Also there has been concern that static CPDOs could be subject to a lot of volatility going through the index roll. JPMorgan has altered leverage ratios – the structure’s leverage is capped at 12 – and the speed at which it levers up and levers down.

Accrete notes

Investors also say that Lehman Brothers has a structure called Accrete Notes in development. Based on the ABX index, it has much lower leverage than a credit CPDO, is structured to early redemption and has roll periods extended by up to two months to avoid possible poor liquidity.

"The equivalent of CPDOs for the credit indices is being worked on the ABS side. As always, part of the bottleneck is the rating agencies getting comfortable with the methodology and also, in parallel, getting clients comfortable with the product, especially given the weakness that is going on in sub-prime in the US right now," says Georges Assi, co-head of CDOs and structured credit.

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