The International Swaps and Derivatives Association, Inc. (ISDA) today applauded a number of industry initiatives that have had the beneficial effect of reducing notional amounts outstanding in credit default swaps (CDS), significantly reducing operational, legal and capital costs for industry participants and improving operational efficiency in CDS.
In 2008, efforts to reduce notional outstanding amounts have been rewarded by a decrease of over $25 trillion in CDS notionals. This reflects a range of activities, including compression exercises run by Trioptima, Creditex and Markit. In addition, auctions and settlements of the recent series of credit events, including Fannie Mae, Freddie Mac and Lehman Brothers, have proceeded smoothly.
This year to date, Trioptima has reduced by $24.5 trillion the amount of CDS notional outstandings through its series of compression cycles (also known as tear-ups), which have included index, tranche and single-name trades. Trioptima’s triReduce Credit service has been in effect since 2005.
Additional efforts implemented by Creditex and Markit that focus on the single name space began as recently as September now account for $550 billion in compressions.
“This reduction in notionals is major progress by anyone’s standards,” said ISDA chairman Eraj Shirvani, co-head of Credit Sales and Trading at Credit Suisse. “That we have been able to reduce outstanding CDS by more than $25 trillion during this period of immense growth and activity for our products is testament to the will and force behind the industry’s efforts to keep operational issues firmly in check.”
“Notional outstandings are often misunderstood,” said Robert Pickel, chief executive officer of ISDA. “While they tend to give an exaggerated impression of amounts at risk, reducing notionals helps both front and back offices. Cancelling out economically offsetting transactions reduces the cost and operational workload of managing those transactions. ”
According to ISDA’s semi-annual survey to mid-year 2008, the notional amount outstanding of credit default swaps (CDS) decreased by 12 percent in the first six months of the year to $54.6 trillion from $62.2 trillion. For the same period, Trioptima reported $17.4 trillion in completed CDS tear-ups. Subsequent notional reductions would bring CDS notional outstandings to $46.95 trillion before accounting for new trades since July 1, 2008.
The notional principal, or notional amount, of a derivative contract is a hypothetical underlying quantity upon which interest rate or other payment obligations are calculated. Notional amounts are an approximate measure of derivatives activity and reflect the size of the field of existing transactions. For CDS this represents the face value of bonds and loans on which participants have written protection.