CDS Credit Default Swap Definition & Meaning | Financial Term | CSIMarket
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Glossary

CDS Credit Default Swap

Financial Term

A credit default swap (CDS) is a type of financial instrument that provides protection against credit risk. In essence, it is a contract between two parties, where one party (the seller) agrees to reimburse the other party (the buyer) in the event of a default on a bond or other form of debt.

CDS is commonly used in the financial industry as a tool for managing credit risk. Institutions that hold bonds or other forms of debt can use CDS to hedge against the risk of default by issuing entities. For example, if a bank holds a large portfolio of corporate bonds and is concerned about the possibility of a default by one of the issuing companies, it can purchase CDS protection to limit its exposure to credit risk.

CDS can also be used for speculative purposes. In this case, investors buy CDS protection on debt issued by companies that they believe to be at risk of default. If a default event occurs, the investor receives a payout from the seller of the CDS.

CDS has become a controversial financial instrument in recent years, as some critics argue that the widespread use of CDS contributed to the 2008 financial crisis. Critics suggest that the widespread use of CDS contributed to the systemic risk by allowing banks to take on more risk than they could handle. Despite this criticism, CDS remain an important financial tool for managing credit risk in the financial industry.


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