Credit-default swaps on tranches of collateralized debt obligations referencing asset-backed securities are expected to grow strongly. A few sizable trades have been done already, traders said, most involving hedge funds going long a CDO and short its AA through BBB mezzanine tranches. The creation of standardized definitions and confirmation documents by the International Swaps and Derivatives Association and an inter-dealer working group is set to work as a catalyst for further ABS correlation trades to take off.
The ISDA documents will be modeled on the pay-as-you-go form for CDS on residential and commercial mortgage-backed securities and are expected to be completed by the end of the year. Right now, existing documentation is being tweaked to allow deals to go ahead, but ISDA and members of the working group said they are hoping a document with the possibility of customizing individual trades on specific asset classes will lead to greater liquidity.
