What is a credit default swap?

A specific kind of counterparty agreement which allows the transfer of third party credit risk from one party to the other. One party in the swap is a lender and faces credit risk from a third party, and the counterparty in the credit default swap agrees to insure this risk in exchange of regular periodic payments (essentially an insurance premium). If the third party defaults, the party

A financial contract whereby a buyer of corporate or sovereign debt in the form of bonds attempts to eliminate possible loss arising from default by the issuer of the bonds. This is achieved by the issuer of the bonds insuring the buyer’s potential losses as part of the agreement.

Political uncertainty have emerged recently after the national vote in Italy gave the edge to speculation of a return to infect our country. Yesterday, Milan, has lost more than% and increased the spread of up to4.5 basis point threshold. There was more bad news also from the front of the CDS (CDS repayment) where it appears that Italy, for a year now, and it becomes more dangerous Spain. But what really is the CDS? Let's find out together. budgetLet's start by saying that the CDs are swap which has a transfer function across attract credit risk; this is a hedging instrument, and the most common in credit derivatives.How can the system that regulates them? Is very simple: when an investor has a credit with respect to the counterparty, the debtor, the right to protect themselves from the risk that the debtor fails and thus, does not return the debt.At this stage, therefore, it is directed to a third party creditor who decides to take on this risk. In fact, then, that third party is acting as an insurance and so-called "protection seller", that is, the protection seller. Creditor agrees to pay to the third part of the amount of the league, which means that the price of coverage.Part III, in the case of insolvency of the debtor, the creditor pledge to pay the face value of the security held. Usually a period of five years from the CDS is trading in the market unregulated, "over the counter". And used swap credit default hedge against the risks of failure (or decrease) of the state. In this case they are called in the terminology "CDS sovereign" (sovereign CDS).Process, therefore, is very simple, and also legitimacy. However, in the world of money, as often it happens, and tools that have been created for the purpose of good, in this case to protect from the risk of default, they become speculative instruments, in this case, go to the swap protection on the market.CDS attracted towards criticism from prominent figures in the field of global finance. And Warren Buffett called derivatives in the famous phrase such as financial weapons of mass destruction. In the annual report to shareholders Buffet says, "if guaranteed in derivative contracts or guaranteed, their real value also depends on the creditworthiness of the counterparties. At the same time, however, before it is honoring the contract, profits and corresponding loss record -often huge entity in their budgets without one penny changing hands. A variety of derivatives is limited because only in the imagination of man (or sometimes, it seems, to the crowd). "According to George Soros, however, and simply banned CDS: the disadvantages outweigh the advantages. According to many economists, derivatives have played a central role in the "mortgage crisis" mortgage in the United States. In particular, stock options and swaps credit default.Insurance companies such as AIG (American International Group), which had been issued, had erred in danger, and the weakness of the bonds insured when the insured threatens bankruptcy. AIG had to be rescued by the Treasury Department in the United States.

A credit default swap is a particular type of swap designed to transfer the credit exposure of fixed income products between two or more parties. In a credit default swap, the buyer of the swap makes payments to the swap’s seller up until the maturity date of a contract. In return, the seller agrees that, in the event that the debt issuer defaults or experiences another credit event, the seller will pay the buyer the security’s premium as well all interest payments that would have been paid between that time and the security’s maturity date.

Its Contract Between two parties where the Buyer makes periodic Payments (over the maturity period of the CDS) to the seller inexchange for a commitment to a payoff if a third party defaults (does pay on time or is incapable of paying). ITS A KIND OF INSURANCE ON CREDIT RISK. 

Its to be effected if the buyer speculates default of the credit.