The abrupt departure of Edward Cahill from Barclays Capital has shone the spotlight on another complex and murky part of the credit world that hitherto had existed out of the spotlight.

Structured investment vehicles (SIVs) typically are put together by commercial banks on behalf of their clients, such as hedge funds or specialised fund managers. They are usually opaque, invest in complex securities and often do not need to be displayed on a bank’s balance sheet.

As investment products go, they’re pretty risky, but just eight weeks ago, the environment for easy credit was such that Mr Cahill decided they were not risky enough. “The reality of the market is that spreads have tightened so traditional SIV structures . . . don’t work,” he said in an interview in May.

So Mr Cahill tweaked the existing SIV structure to increase the risk and drive home higher returns for Barcap’s clients. The result was the formation of a series of so-called SIV-lite products, with strange names such as Golden Key and Cairn High Grade Funding.

They were set up like other SIVs, by borrowing money in the short-term “commercial paper” market to fund investments in long-term, highly rated debt products. The difference between the low interest that they pay on the short-term loans and the high interest they earn on the long-term investments is the profit the SIV makes. It is known as credit arbitrage.

The problem has arisen because of the types of long-term debt that the SIVs and SIV-lite vehicles have been investing in. There is usually a diverse mixture of debt, including corporate debt, but it also typically includes exposure to so called “asset-backed securities”, which are forms of debt guaranteed against assets, like mortgages.

Because we have been in an era of cheap money and banks have been tripping over themselves to lend, spreads on debt – or the amount of return an investor gets from owning the debt – have been getting tighter, which means that the interest earned is less. An SIV-lite structure includes a lot more debt and invests in even riskier assets than regular SIVs. A popular asset used has been sub-prime mortgages, or home loans to low-in-come families in the United States.

When the US sub-prime mortgage market collapsed this year, the debt underpinning these SIV structures started to crumble with it. For the SIV managers, such as Golden Key, it meant that the investors lending them money in the short-term paper market became spooked and demanded their money back. To meet those demands, managers running the SIVs had to try to sell some of their longer-term assets – but because those assets were linked to sub-prime, panicked investors refused to buy. As news around sub-prime worsened and spread across global markets, investors soon even stopped buying less risky SIV-lite assets, leaving vehicles such as Golden Key unable to sell anything.

Their problems were compounded by credit rating downgrades, which pushed the price and quality of the debt inside the SIV-lites down quickly.

For Mr Cahill, it meant that all his clever work was rapidly becoming unstuck. The five or more SIVs that he constructed so carefully have, in recent weeks, slowly started to implode. What is unknown is to what extent the commercial banks are obliged to help when the SIVs that they have created start to go wrong.

Barcap agreed to provide funding for up to 25 per cent of the SIV’s value in the event that investors started to unwind their holdings. Barcap says it has not yet had to pay out any money, but if conditions worsen, it could be facing a bill worth billions of dollars. It’s no wonder Mr Cahill is no longer sticking around.

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