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Risk Management

Counterparty Credit Risk

Measuring & Assigning Counterparty Credit Risk Lines

In simple terms, counterparty credit risk is the risk of a customer (the counterparty) defaulting on a payment. There are levels of default, some easier to cure than others. A technical default is more easily cured than a straight “failure to pay” simply because the counterparty can prove receipt of said funds in a short time period. The delay in payment could be the result of human error, a failure to receive funds from their counterparty, etc. A “failure to pay” is a straight default where the counterparty can provide no assurance as to when they will be able to pay.

Counterparty Risk of Uncleared Derivatives

For uncleared swaps, counterparties will operate as they’ve done since the 1980s. The counterparties had a risk to each other — with the counterparty “in-the-money” having the risk that his counterparty is unable to meet their obligations. The mitigation of this risk will be managed in a similar manner, using similar documentation. PRODUCTS > Derivatives > Futures

Counterparty Risk of Cleared Derivatives

The counterparty risk of cleared derivatives more fully mitigates counterparty credit risk, especially from the client’s point of view. For the individual clearing swaps, they are insulated against the contagion of other clearing clients defaulting. For the clearinghouse as long as they’re fully operational, have a robust Risk Management Committee and meet with other CCP’s regularly they are able to provide this risk mitigation. But because of the number of moving parts (many dealers and many clients), the probability associated with default is larger. PRODUCTS > Derivatives > Futures

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