U.S. hedge funds are going long the equity tranche in synthetic asset-backed securities collateralized debt obligations because value in the first-loss piece has jumped. Traders said over the past month returns in synthetic ABS equity tranches have picked up around 7%, to 22% for a portfolio of BBB-rated ABS.
The funds have emerged as frontline buyers of ABS equity risk because they are the most sophisticated players in the North American housing market. "They have punchy positions to put on," said one official. It could not be determined exactly who is taking the short side of these trades, but officials speculated hedge funds and some dealers are involved.
The uptick in low-grade ABS returns is being attributed to contagion from volatility in the global equity, emerging market and commodity markets. "There is more negative sentiment about this risk," said one London-based trader. Another trader noted surprise at this cross-asset class contamination. "I assumed ABS had found its own place," he noted.
