Credit Default Swap

Explain what is a credit default swap

It is like I bought a bond, and I am worried if the insurer will pay my principle back, so I go to another person asking hey, if they don’t can you pay me, I will pay you regular premium. (it is an insurance)

A company may have many bonds, the CDS default even is triggered if any other issue ranked

pari passu or higher

CDS amount is paid depends on the market value of the

cheapest to deliver obligation with same seniority

in sn index CDS is all entity protected equally?

yes

does CDS have upfront premium

yes

do you have to have the bond to by CDS

nope, spectulators

what is credit basis

CDS spread - bond spread; Think about it like there is a bond market, and there is a CDS market betting on bond market. Vice verse

When do you get a positive basis

CDS spread > Bond Spread; meaning if bond spread is low, bond price is high, sell. CDS spread is higher, sell

do you sell CDS or bond when there is a negative basis

sell bond AND CDS

A company files for bankruptcy, triggering various CDS contracts. It has two series of senior bonds outstanding: Bond A trades at 30% of par, and Bond B trades at 40% of par. Which is the cheapest to deliver obligation

Bond A is the cheapest-to-deliver obligation, trading at 30% of par, so the recovery rate for both CDS contracts is 30%

when would someone prefer cash settlement

if the bond they own worth more than the cheapest to delivery obligation

you entered in to a CDS protection, and the underlying company experience a credit event. You entered into an offsetting contract. Are you gonna make a profit ?

yes, because you are now selling the CDS at a higher price

difference between CDS index and Tranche CDS

both can hedge multiple bonds but tranche CDS only partially hedge the exposures where as index CDS fully hedges

is failure to make credit payment a default event

yes