This paper documents that complex financial innovations like collateralized debt obligations (CDOs) enabled informed parties in the commercial mortgage-backed securitization pipeline to reduce their skin-in-the-game in a way not observable to other market participants. This reduction in first-loss security retention significantly impacted the probability that more senior tranches ultimately defaulted. We show that this performance is entirely driven by the amount of first-loss sold to (affiliated) CDOs within 12 months of the commercial mortgage-backed securities (CMBS) deal. Our result is robust to using the differential access of first-loss investors to CDO funding as an instrument to identify exogenous variations in the retention of first-loss securities.

This paper shows that the network of relationships between brokers and institutional investors shapes information diffusion in the stock market. Central brokers gather information by executing informed trades, which is then leaked to their best clients. After large informed trades, other institutional investors are significantly more likely to execute similar trades through the same broker, allowing them to capture returns that are twice as large as their normal trading performance. Also indicative of information leakage, the clients of the broker employed by activist investors to execute their trades buy the same stocks just before the filing of the 13D.