B&C Woes Due to Lack of CDO Due Diligence?

The deterioration of subprime lending standards can be traced to the lack of due diligence by investors in collateralized debt obligations who bought about 70% of the lower-rated classes of subprime securitizations, according to the Consumer Mortgage Coalition.CDO investors relied on the rating agencies and CDO managers and "did not even realize they were the key risk takers" in the subprime market, CMC explains in a letter to the Federal Reserve Board. CMC executive director Anne Canfield stresses that these "absentee" investors created a "dysfunctional" market that can be fixed by imposing capital requirements on all mortgage lenders and brokers and by imposing constraints on CDO managers and rating agencies to make the secondary market more transparent. In presenting this backdrop, the industry trade group urges the Fed to be cautious in amending its Home Ownership and Equity Protection Act regulations so that it does not exacerbate liquidity problems in the subprime market. "Ultimately the mortgage market can only function properly when those who bear the risk of mortgage investments are closely involved in the process of mortgage origination," Ms. Canfield says.