A Social Network Analysis of Collateralized Debt Obligations
Any financial product embodies a range of distributed professional services: accounting, legal, regulatory and technical. To date, social science enquiry into the failure of the collateralized debt obligation (CDO) market has either focused primarily the technical side: the valuation models upon which CDOs were built; or they have focused on the socio-technical: the organisation or organisational culture of the structuring and selling organisations, mainly banks. These lenses proffer different explanations of crisis in the CDO market. In the former, unanticipated outcomes and crisis are viewed as the result of ‘model error’. For the latter, crisis was the result of social dislocations within the firm – the organisational silos and silences that prevent the emergence of big picture understandings of system risk (Tett 2009), or the diverging clusters of evaluation practice around asset-backed securities and collateralised debt obligations which meant the benefits of diversification were double counted (MacKenzie 2011).
The idea of organisational and cultural/practice-based blockages which create partial, fractured or imperfect knowledges are a useful antidote to theories which view actors as knowing and which view crisis primarily as a form of insider conspiracy (see for example Perrow 2010 or Johnson & Kwak 2012). But the micro-level analysis may present a partial picture. This paper frames organisational space and its role in the crisis differently by looking less at organisational and cultural blockages within a firm, and focusing more on the dense social network connections between actors across firms. Our paper focuses on connectivity not blockages therefore; in particular the destabilising effects of concentrated social networks in finance and allied services in law and accounting.
We contend that partial knowledge and dense interpersonal networks can co-exist, even around esoteric products which require insider knowledge. Our broader argument however is that social concentration poses considerable systemic risks because a small number of strongly interconnected individuals can establish circuits of credit creation that dramatically increase the volume of fragile assets in circulation (Erturk et al 2011).
To do this we present preliminary findings of a social network analysis of the CDO market between 2002 and 2007. We draw on around 300 full text CDO offer documents (around 15% of all the CDOs issued over that period) which provide details of the firms and (in some cases) the individuals involved in a variety of services required to bring a CDO to market: the holding company, the initial purchasers, co-purchasers, collateral manager, co issuers, placement agents, trustees, listing agents, paying agents, administrators, registrar/transfer agents, legal advisors, etc. Results show high levels of concentration in core activities: actors with gatekeeping positions were found to have high Eigenvalues, Centrality and Betweeness scores – making them key players in the structuration process.