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The Dark Side of Specialization: Evidence from Risk Taking by CDO Collateral Managers

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  • Chernenko, Sergey

    (OH State University)

Abstract

I study the incentives and performance of CDO collateral managers, asset management firms responsible for the selection of collateral in ABS CDOs that figured prominently in the 2007-2008 financial crisis. Specialized asset managers with few reputational concerns invest in riskier collateral and gain market share at the expense of more diversified investment managers. Controlling for observable deal characteristics, the IRR of specialized managers' CDOs is 5.8% lower. The results cannot be explained by greater optimism or lower expertise of specialized managers. Deals of specialized managers have smaller equity tranches and invest in higher yielding collateral securities from more recent vintages. This collateral suffers significantly larger losses, even controlling for at-issuance rating and spread. The results point to greater risk taking incentives as one downside of specialization in asset management.

Suggested Citation

  • Chernenko, Sergey, 2015. "The Dark Side of Specialization: Evidence from Risk Taking by CDO Collateral Managers," Working Paper Series 2015-12, Ohio State University, Charles A. Dice Center for Research in Financial Economics.
    • Handle: RePEc:ecl:ohidic:2015-12
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    JEL classification:

    • G01 - Financial Economics - - General - - - Financial Crises
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill

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