Key changes:
1) Restructuring credit event: out
2) Standardised fixed coupons 100/500
3) Standard coupon dates
4) Effective dates: t minus 60 for credit events or t minus 90 for succession events
5) Accrual dates, trade with full coupon, protection seller will pay accrued from previous coupon date
6) Hardwired auction settlement
Markit has the best explainer so far.
The CDS Big Bang: Understanding the Changes to the Global CDS Contract and North American Conventions
occasionally we do add value
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Is that a hypothetical or a hypothecation? heh..heh.
What? Not funny? yeah, but you just know there is a limerick in there, somewhere…
DD:
Absolutely, agree.
You have to be a nut case to trade CDS without a lawyer.
JCK,
Contrary to the opinion of many, occasionally we do add value =).
DD:
I guess you are a lawyer ;_)
You are right, it’s not out, the standard is just ‘No R’
For legacy CDS, liquidity won’t vanish overnight but it will over time and you would want to bailout of trading positions but not “for keeps” positions, to be safe.
JCK,
I’m pretty sure restructuring will still be as liquid in the short term as it is now. The dealer I spoke to said that cutting out NoR is a long term goal and that dealers would continue to provide liquidity for CDS with Restructuring, at least in the short term.
My central point was that it’s definitely not “out” the way that the auction hard-wiring is “in.” It’s still contemplated by the ISDA definitional structure.
Gabriel:
I don’t know how it will evolve, the whole point of the new “hardwired” market conventions is that you won’t have to haggle with dealers about what recovery to use, what curve ..etc…sure you can use your own model for hedging, but the auditors, I suspect, will look at what is widely used i.e. the standard model and won’t be sympathetic to whatever price your own bespoke model spits out. Once you agree on the quoted spread with the dealer, there is no room for fuzzy pricing, the standard model does it.
DD:
Sure it is available, but it won’t be “standard”. People are still allowed to deal in bespoke CDS and they can do what they please for a price.
JCK,
That’s the case for SOME indexes, not all, and is not part of the Big Bang Protocol or the new ISDA definitional structure. Restructuring is certainly still available for single name CDS. According to people I’ve talked to NoR is aspirational at this point, where as the 100/500 and fixed trading dates are happening without question across the board, at least at the dealer level.
Jck,
I disagree. That model, as you pointed out has a lot of oversimplifying assumptions, and, as you say it should be used just for communicating prices, rather than to really value your CDS book, and, more importantly to determine the hedging strategy. I think that it could be considered as a sort of BS for vanilla options. You can still talk to counterparties, and rather than telling them your price you can tell them your implied BS vol. That doesn’t prevent you to use internally something more sophisticated to build your hedge.
DD:
As far as I know, the standard restructuring clause will be ‘No R’. that’s already the case for most indices and HY names.
JCK,
Restructuring is definitely not out.
gabriel:
thx, i understand that, but i think the “open” model will quickly become the ONE model ( for dealing) because there are a lot of market conventions like recovery, hazard curve that are de facto hardwired and it does not leave much room for creativity,and that’s the ultimate point, easier model => means easier communications => means more trading.
This was well-explained there:
MacKenzie on the Single-Factor Gaussian Copula Model
barry:
“…but don’t fixed coupons start injecting convexity risk?”
have that now, the question is, do you want the convexity of a par spread? well, if yes that’s easy to replicate.
Jck,
The quoted spread, or conventional spread as they now call it, is just a quoting convention, and everybody is well aware that it is not a par spread. What is effectively exchanged is the upfront fee and just to give traders a tool to keep thinking in terms of spread as they are used to, this quantity has been introduced. There are already quite a few “standard converter” tools, all based on the former JPM code which has been wrapped up and made available by ISDA. The idea is that everybody internally will still use their own models, and then they will calculate an upfront fee for a given contract. If asked to by any counterparty, or when contributing quotes to Mark-IT they will quote the conventional spread.
Haven’t looked at this in detail, but don’t fixed coupons start injecting convexity risk?
Did they get capital relief okay from BIS on Mod-R elimination, at all?
Why didn’t Europe ‘go along’?
It will have a huge impact for new CDSs, much easier to “compress” because of the standardized terms, so outstanding notional should shrink over time. For what happens to legacy CDSs, very hard to know, the change is not a free lunch, if you have a CDS with a restructuring clause, do you want to switch? Not if the position is for keeps, yes if it’s for trading because liquidity for legacy CDSs will dry up quickly. My main concern is about the over-simplistic model, recovery will be fixed by convention for conversion pricing and the hazard curve will be deemed to be flat. It seems that dealers will keep on quoting the par spread and convert into the 100 or 500 fixed coupon, which is wrong since you need to convert into both fixed coupon to replicate the par spread in terms of duration and convexity.
This looks like a lot of work, but industry participants must have been in the loop about it, because the changes happen soon. I’m no expert, but I’m curious as to your opinion as to the broader impacts this will have on the CDS and Corporate bond markets.