NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Brett Myers

Krannert School of Business
Purdue University

E-Mail: EmailAddress: hidden: you can email any NBER-related person as first underscore last at nber dot org

NBER Working Papers and Publications

April 2009Valuing Toxic Assets: An Analysis of CDO Equity
with Francis A. Longstaff: w14871
How does the market value complex structured-credit securities? This issue is central to understanding the current financial crisis and identifying effective policy measures. We study this issue from a novel perspective by contrasting the valuation of CDO equity with that of bank stocks. This is possible because both CDO equity and bank stock represent levered first-loss residual claims on an underlying portfolio of debt. There are strong similarities in the two types of equity investments. Using an extensive data set of CDX index tranche prices, we find that the discount rates applied by the market to bank and CDO equity are very comparable. In addition, a single factor explains more than 64 percent of the variation in bank and CDO equity returns. Although banks are presumably active cred...
 
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