CREDIT DEFAULT SWAP (CDS)
It is a combination of following 3 words:
Credit : Loan given Default : Non payment
Swap : Exchange of Liability or Risk
Accordingly, CDS can be defined as an insurance (not in stricter sense) against the risk of default on a debt which may be debentures, bonds etc.
Under this arrangement, one party (called buyer) needing protection against the default pays a periodic premium to another party (called seller), who in turn assumes the default risk. Hence, in case default takes place then there will be settlement and in case no default takes place no cash flow will accrue to the buyer alike option contract and agreement is terminated. Although it resembles the options but since element of choice is not there it more resembles the swap arrangements.
Amount of premium mainly depends on the price of underlying and especially when the credit risk is more.
No comments:
Post a Comment