Collateralized debt companies usually incorporated in the Cayman Islands
NEW YORK, USA: Bloomberg News, August 20, 2007 – Each time a bank or financial firm creates a collateralized debt obligation (CDO), it forms a free-standing company incorporated offshore, usually in the Cayman Islands, which doesn’t tax corporations. All CDOs have a trustee, usually a bank, that prepares monthly reports on the changing contents of the debt package.
The trail that connects subprime debt to money market funds usually starts with a mortgage broker who makes a loan to a homebuyer with poor credit. A middleman then bundles hundreds of these subprime mortgages into so-called asset-backed securities.
Next, a CDO manager buys hundreds of these securities for collateral for a CDO. Some CDOs issue commercial paper, and brokers can then sell that paper to money market funds. Commercial paper, which is typically issued by banks and large companies, is debt maturing in less than 270 days.
Commercial paper pays relatively low interest rates, which averaged about 5.3 percent in June and July, because it rarely defaults. There have been occasional exceptions, such as paper issued by Enron Corp. and WorldCom Inc., both of which filed for bankruptcy earlier in this decade.