The Characteristics and Evolution of Credit Default Swap Trading

Abstract

Credit derivatives allow users to manage credit risk by isolating credit risk from underlying financial assets. Although small relative to other derivative and security markets, the credit derivative market has become one of the fastest-growing derivative markets since the late 1990s. The British Bankers Association’s (BBA) survey suggests that the global credit derivatives market increased in size (measured by notional amount outstanding) from around US$151 billion in 1997 to US$514 billion in 1999.1 Credit default swaps (CDS) account for a large share of the market. According to the BBA survey,1 around 50 per cent of the market was in CDS, while Patel2 finds that CDS account for 72 per cent of the market. The International Swaps and Derivatives Association’s (ISDA) market survey indicates that the outstanding notional amount of CDS was US$12.43 trillion by the end of June 2005.3 Because of the market’s rapid growth, CDS have attracted increasing attention in academic research. In recent years, there has also been an increase in CDS index trading, which has provided further depth to the market.