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Derivatives

J.P. Morgan, SSB Pitch Novel High-Yield Synthetic CDOs

J.P. Morgan and Salomon Smith Barney are separately structuring synthetic collateralized debt obligations. The deals are unusual because they are referenced to high-yield debt whereas most synthetic CDOs are based on investment-grade assets. The CDOs, which were being pitch to end users last week, have yet to be finalized but range in size from USD300-500 million with maturities of five to seven years and are expected to hit the market in the next couple of months. Officials at J.P. Morgan and Salomon Smith Barney declined to comment.

Investors said the CDOs are balance sheet transactions designed to transfer the risk the firms have taken on by underwriting either high-yield bond offerings or leveraged loans. One hedge-fund manager said, "I would definitely be interested in these products. But, of course the language would have to be tailored correctly when it came to credit events and the legality issues would need to be hammered out."

A credit derivatives structurer in New York said the firms have embarked on this new approach now because there is a general feeling that the high-yield shake out that began in mid-2000 with the blowup of technology and telecom names is over. She added that high-yield has always offered good arbitrage opportunities, but now that the weaker credits have been pushed out of the market, firms are more willing to structure these kind of products.

Roger Merritt, managing director of loan products at Fitch in New York, said he started to see these type of deals just before year-end and expects more to follow later in the year.

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