How the Trading Floor Really Works

Counterparty Credit Risk

Counterparty credit risk exists in any financial transaction which has an exchange of cashflows between the two counterparties to the transaction in the future. The risk is that one of the counterparties defaults at some point in the future and is no longer able to make the payments it is obligated to pay. When trading stocks, bonds and currency, the risk is considered very small because cash is generally exchanged within days of the transaction (Box 10.5). When trading derivatives, the risk is larger because there could be cashflows out to 30 or 50 years in some cases.

Box 10.5 PACAM treasury trade settlement

• Treasury trades exchange cash for treasuries on the day after the trade. We call this T + 1.
• If the PACAM ...