Credit Default Swaps: The Risks and Regulatory Issues

Abstract

The financial market has undergone a major shake-up/crisis and the credit default swap market is deemed to be the remote cause of this ill-fated crisis. The crisis broke when confidence was lost between banks around the world. The effects on the global financial system were far-reaching. Interbank lending dried up. The impact on some financial institutions, notably in the US and the UK, was catastrophic. Huge government bailouts followed. The remote cause of this crisis was actually linked to the intricacies of the credit derivative market particularly credit default swaps-its high risk volatility spread in the event of default; its lack of regulation and close supervision by authorities. This paper would give background information on derivatives: the types and uses of derivatives; credit derivatives; credit default swaps: the uses, common terms of CDS contracts and a brief overview of the CDS market-risks and regulatory issues. This paper reviews the recent regulatory frameworks for the credit derivatives market and the relevant financial institutions in the United Kingdom and the United States of America.