Finance Credit Default Swaps Assignment | Essay Help Services

The credit default swap (CDS) is a bilateral contract designed to transfer the credit risk of a reference entity between the parties. The first credit default swap was introduced in the early 1990s to help banks hedge credit risk in connection with their lending activities. It was gradually extended to cover sovereign debt, corporate debt, and MBS. In the early 2000s, the credit default swap on a basket of reference entities (multi-name CDS, CDS index) was introduced into the market. CDSs are mostly arranged and traded over the counter with big investment banks as brokers.

You are asked to conduct research on the development of the CDS market, and answer the following questions (200 points):
1. Describe the general framework of a typical CDS contract and the cash flows between counterparties in the contract. (15 points)
2. What are the key differences between a CDS contract and a conventional insurance contract? Are any of these differences contributing factors to the 2008 crisis? How? (25 points)
3. In CDS contracts, what kind of risks are CDS protection buyers exposed to? And what kind of risks are CDS protection sellers exposed to? Describe three to four risks for each party. (25 points)
4. The CDS market on corporate bonds is generally more liquid than the market of the same name bonds (i.e., the CDS market on bonds issued by GM is more liquid than the market for GM bonds). Why? Provide at least four reasons. (40 points)
5. What is CDS basis trade? Describe how it works. Explain under what conditions it is a profitable trading strategy. What went wrong with negative CDS basis trades in late 2008? (40 points)
6. How did CDS trades increase the interconnectedness of financial institutions? (15 points)
7. What’s the role AIG play in the CDS trades? What’s your opinion on whether AIG should be bailed out in 2008? Why? (40 points)