Pre-Settlement Risk

AAA

DEFINITION of 'Pre-Settlement Risk'

The risk that one party of a contract will fail to meet the terms of the contract and default before the contract's settlement date, prematurely ending the contract.

This type of risk can lead to replacement-cost risk.

INVESTOPEDIA EXPLAINS 'Pre-Settlement Risk'

For example, let's say ABC company forms a contract on the foreign-exchange market with XYZ company to swap U.S. dollars for Japanese yen in two years. If prior to settlement XYZ company goes bankrupt, it will be unable to complete the exchange and must default on the contract. ABC company will have to form a new contract with another party which leads to replacement-cost risk.

RELATED TERMS
  1. Risk Management

    The process of identification, analysis and either acceptance ...
  2. Replacement Risk

    The risk that a contract holder will know that the counterparty ...
  3. Default Risk

    The event in which companies or individuals will be unable to ...
  4. Settlement Risk

    The risk that one party will fail to deliver the terms of a contract ...
  5. Settlement Date

    1. The date by which an executed security trade must be settled. ...
  6. Forex - FX

    The market in which currencies are traded. The forex market is ...
RELATED FAQS
  1. What kinds of derivatives are types of forward commitments?

    A derivative is a type of security in which the price of the security is dependent on underlying assets. A derivative could ... Read Full Answer >>
  2. What is an over-the-counter derivative?

    A derivative is a type of security in which the price of the security depends on the price of the underlying asset. Depending ... Read Full Answer >>
  3. How can an investor terminate a derivative contract?

    Most derivatives contracts have provisions allowing for early termination and netting out the initial investment. The early ... Read Full Answer >>
  4. What does the notional principal of a derivative contract refer to?

    The notional principal amount of a derivative refers to the nominal, or predetermined, value used to calculate payments made ... Read Full Answer >>
  5. Who is the counterparty of a derivative?

    The counterparty to a derivative is the party who takes the other side of the trade. Every derivative trade needs to have ... Read Full Answer >>
  6. How are risk weighted assets used to calculate the solvency ratio in regulatory capital ...

    Risk-weighted assets are the denominator in the calculation to determine the solvency ratio under the provisions of the Basel ... Read Full Answer >>
Related Articles
  1. Options & Futures

    A Primer On The Forex Market

    Moving from equities to currencies requires you to adjust how you interpret quotes, margin, spreads and rollovers.
  2. Insurance

    Futures Fundamentals

    For those who are new to futures but want a solid understanding of them, this tutorial explains what futures contracts are, how they work and why investors use them.
  3. Investing Basics

    Explaining Currency Swaps

    A swap that involves the exchange of principal and interest in one currency for the same in another currency.
  4. Investing

    How To Read Interest Rate Swap Quotes

    Puzzled by interest rate swap quotes terminology? Investopedia explains how to read the interest rate swap quotes
  5. Economics

    Effects of OIS Discounting for Derivative Traders

    The use of OIS discounting has important implications for derivative valuations and could positively or negatively impact a trader's profit or loss.
  6. Investing

    How Swaptions Can Reduce Risk in Portfolios

    How can investing in Swaptions reduce risk in portfolios.
  7. Investing

    What Warren Buffet Calls "Weapons of Mass Destruction": Understanding the Swap Industry

    A full analysis of how the swap industry works.
  8. 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.
  9. Investing Basics

    ISDA Master Agreement

    The ISDA Master Agreement is a document outlining the terms of an over-the-counter derivatives transaction between two parties. This document serves as a standard agreement in these transactions ...
  10. Insurance

    Credit Default Swaps: What Happens In A Credit Event?

    The credit crisis of 2008 prompted important changes to the settlement of credit default swaps.

You May Also Like

Hot Definitions
  1. Net Worth

    The amount by which assets exceed liabilities. Net worth is a concept applicable to individuals and businesses as a key measure ...
  2. Stop-Loss Order

    An order placed with a broker to sell a security when it reaches a certain price. A stop-loss order is designed to limit ...
  3. Covered Call

    An options strategy whereby an investor holds a long position in an asset and writes (sells) call options on that same asset ...
  4. Butterfly Spread

    A neutral option strategy combining bull and bear spreads. Butterfly spreads use four option contracts with the same expiration ...
  5. Unlevered Beta

    A type of metric that compares the risk of an unlevered company to the risk of the market. The unlevered beta is the beta ...
  6. Moving Average - MA

    A widely used indicator in technical analysis that helps smooth out price action by filtering out the “noise” from random ...
Trading Center