InvestorQ : Can you tell me about the recent RBI announcement pertaining to credit default swaps or CDS? What does that mean and how will it work?
Arusha Ray made post

Can you tell me about the recent RBI announcement pertaining to credit default swaps or CDS? What does that mean and how will it work?

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3 months ago
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The RBI has recently permitted credit default swaps wherein it becomes possible for investors with exposure to sub-par debt to hedge their risk by buying CDS. In this case, the CDS holder gains if the company moves closer to default and that protects them from the loss of default by the issuer.

RBI has now added that all over-the-counter credit default swaps i.e. OTC-CDS transactions must be reported within 30 minutes to the trade repository. In addition, it will also have to be reported if such a CDS is for the purpose of hedging or for any other purpose. The Clearing Corporation of India or CCIL will be the default trade repository for CDS. This also applies to assigned CDS contracts.

FIMMDA will devise standard master agreements for the Indian CDS market and this will include credit event definitions and detailed settlement procedures. FIMMDA will publish the CDS curve and valuations will be based on this curve.

Currently, retail users can only buy CDS for hedging purposes. However, non-retail players like institutional investors and prop-desks can buy CDS for hedging and for the purpose of speculation. However, this will be closely monitored as too much of CDS buying had exacerbated the financial crisis of 2008.

To begin with, there will be market makers which will include banks, NBFCs, housing finance companies as well as standalone primary dealers and DFIs. In additional, such protection via CDS can be sold by insurance companies, pension funds, mutual funds, alternate investment funds and even by foreign portfolio investors to clients.

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