Sandeep Yadav

CREDIT DERIVATIVES SURVEY BY FITCH:

It’s interesting to read this year annual survey of credit derivatives in the latest edition of Fitch.

This year survey included 29 banks and done across 10 countries. The institution covered under the survey included most significant players underscoring past and current trends.

The bank surveyed by Fitch saw decline in both bought and sold positions, and in process banks shifted from being net protection seller to the net protection buyers.

Among the biggest surprises regards perception of CDX:

•  The Regulation
•  Misconceptions with regard to CDX instruments/Market
•  Blame based on CDX for causing contribution to crisis (source Fitch)

In terms of Sovereigns and spread volatility generically the impact of CDX market on cash market volatility was least important, For reference entities ability to tap the debt market the majority believed that CDX trading indeed influence market access. With respect to Greece and Portugal market spreads the impact was marginally stronger.

On the regulatory front with the introduction of (DTCC) depository trust and clearing corporation, the transparency has improved. The move for the central clearing of CDX is significant regulatory initiatives in terms of reducing the systemic risk. The CCP reduces the counter party risk from an individual dealer to the end-user mitigating the risk through application multilateral netting.

On the front side of Standardization the CDS contract majority believes that it’s very important mechanism to impact on liquidity.

On the side of Top Challenges for the credit derivative market:

•  Central clearing takes the lead
•  Followed by Regulation/Legislation
•  Liquidity
•  CDS market perceptions/misconceptions
•  Counterparty issues
•  Standardization
•  Transparency

Changes in the strategies utilized over the years:

•  Hedging has increased in the course of time.
•  Followed by Basis trades ( as market participant tried to capture the difference in trading levels between the two in the wake of the recent crisis ,where the adjusted cash market spread is trading at a wider level than a CDS on the same underlying entity of a similar tenor)
•  Indices (seems likely to grow)
•  Followed by Sovereign strategies
•  Basket (non Index)
•  Curve strategies
•  Single name (source Fitch)

Another interesting fact of the report to see the top reference entity, top financial reference entity and the top sovereign reference entity, Daimler took the spot in terms of top reference entity, JP Morgan chase was the top financial reference entity sold and Morgan Stanley the top financial reference entity bought.  Italy ranked the top in terms of sovereign reference entity.

No hedge fund or Asset manager was included in the survey. Interesting to see the survey after a notable Investment bank remarked that CDS markets are overreacting in a leading financial news paper.