CDS - failure to pay

CFA Level II Portfolio Management
#1

Consider the normal CDS (senior CDS)

  1. If the company fail to pay its interest or principal on the sub-ordinated bond, will it trigger the CDS payoff? .

  2. Failure to pay the bank loan interest

  3. Failure to pay the account payable (to the supplier)

Thanks!

#2

If that trigers a default for the company, and default is a credit event for the CDS, then yes.

#3

Thanks!

How about not mark to market liability (2 and 3)?

#4

yes on 2, likely not on 3 (unless it pushed the company into BK or there were specific terms in a CDS that references any failure to pay, but i’m sure this is well beyond the scope of the text).

#5

Thanks. Sometimes bank will agree to defer the interest payment (in order to maintain the relationship or…), will it still trigger CDS payoff?

#6

depends on the specific terms of the CDS and if the terms of the loan agreement allow for deferral. All goes back to whether there’s a failure to pay and default, which is specfic to various contracts. Well beyond the scope of the exam.

#7

Many thanks ro424.

#8

The credit event trigger is usually decided by the ISDA Determinations Committee.

Any obligation which is ranked senior or pari passu (equal) to reference obligation is covered.

So, in your question, if a senior CDS is purchased, sub debt will not be covered.

  1. Failure to pay the bank loan interest

  2. Failure to pay the account payable (to the supplier)

may be deemed as credit event subject to ISDA Determinations Committee decision, which is based on super majority vote.

Hope it helps.

#9

Hi Aghaali, I think u got confused as I did before, please take a look at ro424’s reply. Failure to pay sub-debt will still trigger Senior CDS payoff. Thanks.