Banks may be indirectly exposed to collateralized loan obligations if the hedge funds they have relationships with suffer losses on their holdings, the Bank for International Settlements said.
As providers of services such as prime brokerage to major investors in CLOs, banks may face larger losses than those implied by their direct exposures, creating heightened financial stress, the BIS said in its quarterly review. The opacity of such links may represent a source of instability similar to financial institutions’ off-balance sheet exposure to the collateralized debt obligations (CDOs) that were at the center of the financial crisis, the BIS added.