Credit Derivatives and Concepts

Credit derivatives and concepts

Credit derivatives are financial contracts that allow credit risk transfer, generally on bonds or loans of a sovereign or corporate entity. Credit derivatives are used to express a positive or negative credit view on a single entity or a portfolio of entities, and reduce risk arising from ownership of bonds or loans. Transfer of credit risk may be for the whole life of the underlying asset or for a shorter period. The transfer may be for the entire amount of the underlying asset or for a part of it. A credit derivative may be referenced to a single entity or to a basket of several entities. Credit derivatives may also include cash instruments (e.g. credit-linked notes) where repayment of principal is linked to the credit standing of a reference asset/entity.

CDS:

Credit Default Swaps (CDS) are a class of credit derivatives that can be used to transfer credit risk from the investor exposed to the risk (the protection buyer) to an investor willing to assume that risk (the protection seller). While dealing in CDS, both buyer and seller of credit protection specify a reference entity, reference obligation, maturity of the contract, notional amount, credit events, etc.

Features of a CDS:

Reference Entity

Notional amount

Spread

Maturity

Parties in a CDS

Credit Events:

A credit event is a pre-specified event that triggers a contingent payment on a credit default swap. Credit events may be bankruptcy, failure to pay restructuring, moratorium etc.

Global Scenario and role of CDS in western and other Asian markets:

This section will study the credit derivative market worldwide, there role during financial crisis of 2008 and effect of introduction of CDS in other Asian markets

Indian corporate bond market overview

This section will look at the structure of indian corporate debt market w.r.t to size, different participants etc.

Role CDS can play

Role of CDS to catalyse indian corp debt market which has remained underdeveloped after repeated attempts by RBI and SEBI.

Positives and negatives: