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Wednesday, November 04, 2009

What exactly is a Credit Default Swap?

A nice explanation of the Credit Default Swap and the extent that the market for these derivatives provides benefits to the financial system, and also a few risks, is provided in this Cleveland Fed Economic Commentary. Here's the abstract:
Credit derivative instruments allow default risk to be segregated from debt of all kinds. They have granted investors the ability to hedge their portfolios and provided numerous institutions with a new source of income. However, the market for credit default swaps is neither transparent nor regulated, perhaps undermining the stability of the financial system it has helped innovate.


An interesting graph of the amount of (over-stated) CDS's outstanding:



Wow.

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Comments:
Aren't those two reversed? The green is GDP...
 
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