What’s a credit event? It’s a difficult question. Dealbreaker is exercised on this, or more specifically on the issues with CDS protection holders getting paid on some unusual credit-event-like happenings:
- There are bonds.
- You buy CDS that is supposed to pay off if something goes wrong with the bonds.
- Something goes wrong with the bonds, insofar as they poof into some weird garbage-y thing or assortment of garbage-y things.
- You can scoop up garbage-y things to your heart’s content, but the contract doesn’t let you deliver them into CDS in a way that achieves the sensible result.
- Sensible Result = Face Value of Bond minus Value of Package of Garbage-y Things You Got For Your Bond
- So you get less than Sensible Result, and are screwed, and the CDS seller has a windfall. Continue reading “What is a Credit Event ?”