Credit Default Contract

AAA

DEFINITION of 'Credit Default Contract'

Security with a risk level and pricing based on the risk of credit default by one or more underlying security issuers. Credit default contracts include credit default swaps (CDSs), credit default index contracts, credit default options and credit default basket options. Credit default contracts are also used as part of the mechanism behind many collateralized debt obligations (CDOs); in these cases, the contracts may have unique covenants that exclude company events, such as a debt restructuring as a "credit event".


INVESTOPEDIA EXPLAINS 'Credit Default Contract'

The main goal of credit default contracts is to establish a price for a given default risk, where it can then be traded to another party who wishes to accept it. Growth of credit default contracts has exploded in recent years, as liquidity has grown along with institutional investor interest. They are a versatile tool for transferring risk away from a lender's balance sheet (such as in CDS) or for pure speculation by hedge funds and other investment vehicles.

The biggest risk in credit default contracts is their extreme sensitivity to individual company and market fluctuations. If fear of default starts to creep into the credit default markets, spreads will rise across the board, making the cost of protection that much more expensive, and slowing down activity in the debt markets as a whole.

RELATED TERMS
  1. Collateralized Debt Obligation ...

    An investment-grade security backed by a pool of bonds, loans ...
  2. iTraxx LevX Indexes

    A set of two tradable indexes that hold credit default swaps ...
  3. Loan Credit Default Swap (LCDS)

    A type of credit derivative in which the credit exposure of an ...
  4. Credit Default Swap - CDS

    A swap designed to transfer the credit exposure of fixed income ...
  5. Recession

    A significant decline in activity across the economy, lasting ...
  6. Triggering Event

    1. A tangible or intangible barrier or occurrence that, once ...
Related Articles
  1. Bonds & Fixed Income

    Credit Default Swaps: An Introduction

    This derivative can help manage portfolio risk, but it isn't a simple vehicle.
  2. Bonds & Fixed Income

    Corporate Bonds: An Introduction To Credit Risk

    Corporate bonds offer higher yields, but it's important to evaluate the extra risk involved before you buy.
  3. Options & Futures

    Hedge Funds Go Retail

    Find out how average investors are breaking into what was once reserved for the ultra rich.
  4. Personal Finance

    The Fuel That Fed The Subprime Meltdown

    Take a look at the factors that caused this market to flare up and burn out.
  5. When trading in financial markets, higher returns are generally associated with higher risk. Hedge your risk with interest rate swaps.
    Investing Basics

    How Are Interest Rate Swaps Valued?

    When trading in financial markets, higher returns are generally associated with higher risk. Hedge your risk with interest rate swaps.
  6. Mutual Funds & ETFs

    What is the difference between a hedge fund and a private equity fund?

    Learn the primary differences between hedge funds and private equity funds, both of which are utilized by high net worth investors.
  7. Mutual Funds & ETFs

    How do hedge funds determine what assets to own?

    Learn about the various types of investments that hedge fund managers use, and explore basic hedge fund management trading strategies.
  8. With stocks surging, financial advisers and their wealthy clients are asking why they should continue to bother with poorly performing alternatives.
    Professionals

    Are Advisors Off Alternatives?

    With stocks surging, financial advisers and their wealthy clients are asking why they should continue to bother with poorly performing alternatives.
  9. Mutual Funds & ETFs

    Where does a hedge fund get its money?

    Learn how a hedge fund is structured and how the managing partner of the fund goes about the process of finding and soliciting investors.
  10. Mutual Funds & ETFs

    What is the purpose of a hedge fund?

    Find out what a hedge fund is, how it is set up and why it is different than other forms of investment partnerships like mutual funds.

You May Also Like

Hot Definitions
  1. SWOT Analysis

    A tool that identifies the strengths, weaknesses, opportunities and threats of an organization. Specifically, SWOT is a basic, ...
  2. Simple Interest

    A quick method of calculating the interest charge on a loan. Simple interest is determined by multiplying the interest rate ...
  3. Special Administrative Region - SAR

    Unique geographical areas with a high degree of autonomy set up by the People's Republic of China. The Special Administrative ...
  4. Annual Percentage Rate - APR

    The annual rate that is charged for borrowing (or made by investing), expressed as a single percentage number that represents ...
  5. Free Carrier - FCA

    A trade term requiring the seller to deliver goods to a named airport, terminal, or other place where the carrier operates. ...
  6. Law Of Supply And Demand

    A theory explaining the interaction between the supply of a resource and the demand for that resource. The law of supply ...
Trading Center