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December 19, 2011

Contingent Credit Default Swaps (CCDS)

Story from IFR here on the movement to standardise the CCDS. A Contingent CDS provides protection on a range of underlying reference contracts, planned to include Interest Rate, FX and Commodity OTC products. You pay a premium, for the right to receive the PV of the reference transaction, see below. Page 35 of this PDF has a good description including the pay off scenarios.

  • Trade 1: BillyBank has an IRS with TruckMaker Inc, BillyBank is paying Fixed
  • Trade 2: BillyBank buys a CCDS from GiantBank Corp, referencing Trade 1
  • If TruckMaker Inc defaults on Trade 1, BillyBank has the right to be paid by GiantBank Corp, the positive MTM of Trade 1.
  • If the MTM of Trade 1 is negative with respect of BillyBank (out of the money), then GiantBank Corp pays nothing, and keeps the premium.
  • This means BillyBank has exactly matched the credit exposure of TruckMaker Inc by buying protection from GiantBank Corp.

 


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