Fixed-Income Securities and Derivatives Handbook, Second Edition

CHAPTER 10

Credit Derivatives

Unless purchasing what are considered default-free instruments, such as U.S. Treasuries, German bunds, or U.K. gilts, bond investors are exposed to credit risk. This is the risk that the debt issuer will default either on servicing the loan—delaying or failing to make the coupon payments, known as a technical default—or on paying back the principal, an actual default. To hedge this risk, investors may use credit derivatives. These instruments, which were introduced in significant volume only in the mid-1990s, were originally designed to protect banks and other institutions against losses arising from credit events. Today, they are used to trade credit and to speculate, as well as for hedging.

Gup and Brooks (1993) ...