Similar moves were seen in the short-term credit derivatives linked to banks in the aftermath of the Lehman Brothers collapse in September 2008.
Banks that trade with Credit Suisse rushed to safeguard their exposure with the lender on Wednesday, snapping up contracts that will compensate them if the crisis rocking the Swiss lender deepens.
Banks rushing to buy the CDS to reduce their counterparty risk exacerbated the move, according to people with knowledge of the matter.In a chaotic day of trading, quotes for one-year credit default swaps were considerably more expensive than the offers for longer durations as lenders tried to give themselves a near-term shield from their exposure to the lender, the people said.
Banks buy and sell derivative contracts and other instruments constantly, meaning they assume counterparty risk when they take the other side of a trade. When the default risk of a lender increases, it can lead to mark-to-market losses known as a credit valuation adjustment even if the institution meets its obligations.“CVA desks need to hedge counterparty risk,” said Jochen Felsenheimer, a portfolio manager at XAIA Investment.
Credit Suisse’s bonds, meanwhile, dropped by as much as 40 cents on the dollar Wednesday, making it by far the biggest decliner amid a broader credit slump led by bank debt. The lender has €41.8 billion of bonds maturing by the end of 2024, according to data compiled by Bloomberg.
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