BNP Paribas offers trade in credit

BNP Paribas has launched the Hedge Bond Certificate, which is designed to profit from the difference between yields on corporate bonds and the cost of protecting the debt from default - called negative basis.

BNPP buys a bond from, say, a triple-A rated issuer and at the same time takes out a credit default swap (CDS) against that bond. The product takes advantage of a pricing market in which CDS can be cheaper to buy than a bond on the same credit - the investor gets the difference, after BNPP deducts the cost of the total return swap the bank enters into.

The investor will receive a fixed or floating coupon in any major currency every year for the life of the product. If the firm goes bankrupt, the investor gets the principal back.

Investors can also buy a 'protected' version, where the certificates are not redeemed early. Hedged Bond Certificates will be redeemed at 100% at the maturity date regardless of a credit event to the underlying bond.

To access the note, investors buy a principal-protected BNPP-issued certificate, which protects from the risk of succession or restructuring. This note is guaranteed by BNPP. The minimum investment is EUR1 million but the average size of a bond is EUR2-3 million.

A CDS pays the buyer face value in exchange for the underlying securities or the cash equivalent should a company fail to meet its debt obligations. Corporate CDS contracts will pay out if they are triggered by a credit event as defined by the International Swaps and Derivatives Association.

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