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CRS: Treasury Securities and the U.S. Sovereign Credit Default Swap Market

Treasury Securities and the U.S. Sovereign Credit Default Swap Market – D. Andrew Austin, Analyst in Economic Policy; Rena S. Miller, Analyst in Financial Economics – July 25, 2011

  • “A typical credit default swap (CDS) contract specifies that a CDS holder, in exchange for an annual fee set by the market and paid quarterly, can trade an asset issued by a “reference entity” for its par value if a “credit event” occurs. Par, or face, value is the value of a bond at maturity. A corporation or a sovereign government could be a reference entity. A committee of the derivatives trade organization, the International Swaps and Derivatives Association (ISDA), determines if a credit event has occurred, according to their interpretation of applicable guidelines. In general, failure to make a timely payment usually constitutes a credit event.
    The cost of buying CDS protection on federal debt for a one-year duration has roughly doubled since the start of 2011. U.S. CDS prices are currently about 54 basis points (one-hundredths of a
    percent)—slightly lower than for Germany—but much lower than the cost of CDS protection for Greece, Portugal, and Ireland. A CDS contract covering $1,000 of federal debt at a price of 54 basis points (bps) would require annual payment of $54.”
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