“Intricate and risky trading strategies in credit markets are suddenly causing pain, amid concerns about diminishing corporate credit quality.

Among the credit-derivative products facing pressure: collateralized-debt obligations, or CDOs, and credit-default swaps. CDOs typically are repackaged corporate debt with varying yields and levels of corporate risk. Investors can opt for CDO slices ranging from investment-grade corporate debt to unrated, extremely risky debt. Credit-default swaps are essentially products that provide insurance against a potential corporate debt failure.

In both markets, turmoil has erupted, raising the pressure on investors such as hedge funds and Wall Street dealers to cut losses or reprice their positions. Speculation of hedge-fund troubles dogged the credit markets throughout yesterday’s trading session.”

Risky Strategies Take Toll on Traders

These widening spreads are a sign of liquidity problems. Watch out.