Investors in credit default swaps (CDS) could find their holdings unexpectedly affected by corporate spin-offs and de-mergers, rating agency Fitch has warned.In a report published this week, Fitch analysts Roger Merritt, James Batterman and Tim Greening warn that the CDS market is not a perfect substitute for the loan and bond markets.In particular, in the event of a spin-off, loan and bondholders could find themselves benefiting from early retirement or protection agreements. CDSs, however, would not be retired early, even if the relevant obligations have been retired. It is not altogether clear what would happen in such a case, the report says, suggesting that the CDS holder could end up with a significant mark-to-market loss."The protection buyer could end up owning a short position with a shell company holding little or no debt and/or assets, whereas any actual hedged debt obligation no longer exists," the analysts wrote.They add that credit derivatives traders are now considering changing the standardised International Swaps and Derivatives Association documentation in order to protect CDS investors from the effects of a de-merger.
More on Structured Products
Lower deposit rates will force investors to take more risk
Software from Calastone seeks to bring structured products into the digital age
Regulation and low interest rates pose greatest challenge
Tim Mortimer on the value of put options in structuring
Sign up for Risk.net email alerts
Sponsored video: Tradeweb
Multifonds talks to Custody Risk on being nominated for the Post-Trade Technology Vendor of the Year at the Custody Risk Awards 2014
Sponsored webinar: IBM Risk Analytics
Nominated for two technology awards
There are no comments submitted yet. Do you have an interesting opinion? Then be the first to post a comment.