2 - The credit derivatives market

Abstract

The market for credit derivatives has undergone enormous changes in recent years. This chapter provides an overview of the main forces shaping the market, including a discussion of major types of market participants. The chapter also discusses the most common instruments, practices, and conventions that underlie activity in the credit derivatives market. Credit derivatives are negotiated in a decentralized, over-the-counter market, and thus quantifying and documenting the market's spectacular growth in recent years is no easy task. Although still relatively young, the credit derivatives market has already developed to the point where one can characterizes its evolution in terms of developments in its various segments, such as the market for single-name credit derivatives or the market for credit derivatives written on sovereign credits. Credit derivatives are written on both sovereign and nonsovereign reference entities. In practice, however, the vast majority of these instruments reportedly reference nonsovereign entities. The latest British Bankers Association (BBA) survey indicates that only about 15% of contracts negotiated in 2001 were written on sovereign entities, with the majority of them referencing sovereign emerging market debt. In addition, according to the BBA survey, the share of contracts written on sovereign entities appears to have been declining steadily since the mid-1990s, from an estimated 54% of all credit derivatives contracts in 1996.