Collateralized bond obligation (CBO)

Collateralized bond obligation (CBO),

Definition of Collateralized bond obligation (CBO):

  1. A collateralized bond obligation (CBO) is a type of structured debt security that has investment-grade bonds as the underlying assets backed by the receivables on high-yield or junk bonds. The structured debt instrument is securitized by packaging a large number of bonds with varying degrees of credit quality. The bonds are a mix of low-risk and high-grade bonds that are separated into tiers. Each tier represents a certain level of risk that determines the interest that will be paid to investors. The top tier of a CBO contains bonds that are deemed to be high quality and low risk and, thus, pays low-interest rate; the middle tier is backed by higher risk bonds and pays higher interest than the top tier; the bottom tier of the debt security represents bonds with the lowest quality and receives any interest payment left over after the higher tiers have been paid. Because of the high risk of investing in the bottom tier, CBO holders receive a high yield on this level.

  2. Collateralized Bond Obligation (CBO) is an investment-grade bond backed by a pool of junk bonds. Junk bonds are typically not investment grade, but because the pool includes several types of credit quality bonds together, they offer enough diversification to be "investment grade.".

  3. Debt financing mechanism that converts junk grade bonds into an investment grade asset based security (ABS). In this arrangement, a banks portfolio of low-rated bonds (as the underlying collateral for an issue of CBO) is transferred to a specially created corporation or trust (called special purpose vehicle or CPV) which has no other assets and manages the issue. Typically, a CBO is issued at two or more levels (called tiers or tranches) with different degrees of risk and rates of interest.

Meaning of Collateralized bond obligation (CBO) & Collateralized bond obligation (CBO) Definition