KIC000108 - ‘w‘w—m can.m_m_w.m.e Credit Default Swaps...

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Unformatted text preview: . ‘w‘w—m. can...m_m._w. .-_-..,.m..e.. , Credit Default Swaps A CBS is basically an insurance contract. The contract has a national value which istypicelly $10 million. If you buy a CDS contract you must pay a quarterly premium to the seller. CD5 contracts are standardized for a specific tenor (length). Some short-term contracts less than lyear. Major tenor volume has been 5 years historically, but other tenors are tradlng more frequently now - 1, Z, 3, 5, 7. 10 The most basic CD5 contract is for a single name, where there is one underlying reference obligation. Credit Event As with an insurance contract, you keep paying until some event happens then the seller must proulde protection. The event in the case ofa CBS is called a credit event. what exactly is a credit event has evolved over the years and is a hotly contested issue these days. Missing a payment due to financial distress is what the event is meant to capture. Sometimes restructuring can cause a credit event which is not due to financial distress and no loss takes place. The definition has been modified a few times mostly for restructuring reasons. ISDA Categorization (continued) El Credit Events The Resrrnciun‘ng Suppfemem to the 1999 ISDA Credit Dcn'wiirve: Definitiom' (the “Supplemenlflefinmon "J issued in April 2001' provided a modified definition for restruuuring There is n provision for the limitation on reference obligations in connection with iceimcturmg of loans made by the proteciion buyer to the borrower the: is the obligor offlie refermoe obligation This provision requires the following in order to qualifir for n remcmnng the! musrhe four or more holders ofihe reference obliginiou there must be e consent toihe restructuring of ilic reference obligation by a supemejorily (66 2/3%) In addition. die supplemeni limits the maturity of reference Dhligalllnls that are physically deliverable when restructuring results in a payoui mggered by the protection buyer. ...
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