Knowledge

Credit Derivative

A financial contract under which an agent buys or sells risk protection against the credit risk associated with a specific reference entity (or specified range of entities). For a periodic fee, the protection seller agrees to make a contingent payment to the buyer on the occurrence of a credit event (usually default in the case of a credit default swap).

Credit derivatives are OTC derivative contracts that enable financial entities to trade and manage their credit risk (normally originating from a bond or a loan) by transferring it from one party (the protection buyer) to the other (the protection seller). Credit default swaps (CDS) are the most traded credit derivatives on the market; another widely exchanged credit derivatives are the Collaterised Debt Obligations (CDOs),Total Return Swaps and Credit Spread Derivatives.