Can any explain me the work of Collateral mangers in CDO briefly?
I realise this probably a bit late for this answer ti be helpful to OP, but I’m putting here just in case someone else comes looking.
So in a CDO, an SPV issues bonds to buy securities, say leveraged loans or bonds. Of course these securities back the bonds, ie they are collateral.
Now in practice, the CDO manager buys anf sells securities all the time, while investors need to know at all times exactly what collateral supports their bonds.
Here comes the collateral manager. This will be a custodian bank mandated by the SPV to control what collateral is owned, when, on behalf of investors. They typically issue a report on a quarterly basis that describes the assets in some detail, along with the associated covenant calculations or collateral tests. But there is a reconciliation of the assets between the collateral manager and the CDO/asset manager. Normally the systems are linked together and the reconciliation is done regularly.
For instance, the SPV warrants that the CDO will be overcollaterilised, meaning the value of the assets is greater than that of the liabilities. So the AAA tranche say must equal 120% of liabilities, while the B tranche is at 104% say. A failure on these tests freezes the waterfall subordinated to the point of failure, meaning all payments junior to the failed instrument are rolled over until the tests are back in compliance.
In practice, this means the dividends to the equity are susmended and kills the equity value because IRRs collapse. So the dynamics for the CDO manager are quite complex, as those for holders of mezzanine tranches, who may face an event of default…
Hope this helps