, physical settlement is mandatory.
can opt for any of the three settlement methods (physical, cash and auction), provided theCDS documentation envisages such settlement.
The accounting norms applicable to CDS contracts shall be on the lines indicatedin the ‘Accounting Standard (AS) 30 – Financial Instruments: Recognition andMeasurement’, approved by the Institute of Chartered Accountants of India(ICAI).
Participants are required to build robust and appropriate risk management systemto manage risk of sudden increases in credit spreads resulting in mark-to-marketlosses, high incidence of credit events, jump-to-default risk, basis risk,counterparty risks, etc., which are difficult to anticipate or measure accurately.
A centralised CDS repository with reporting platform on the lines of the DTCC’sTrade Information Warehouse (TIW) would be set up for capturing transactions inCDS and it may be made mandatory for all CDS
to report theirCDS trades on the reporting platform within 30 minutes from the deal time.
Fixed Income Money Markets and Derivatives Association of India (FIMMDA)may coordinate with service providers/ISDA to come out with a daily CDS curve,day count convention, setting up of determination committees and in the mattersrelating to documentation. However, if a proprietary model results in a moreconservative valuation, the market participant can use that proprietary model.
The report proposes standardization of contracts
Key Highlight of the Report
:The central highlight of the Report is that the users are not allowed to enter into synthetictransactions, that is, users can only use CDS for hedging purposes and only if they have an actualexposure in the underlying, can the users buy protection and cannot maintain
CDSprotection. The relevant extract of the text of the report is reproduced below:
are envisaged to use the CDS only for hedging their credit risks, theGroup recommended that the
shall not, at any point of time, maintain nakedCDS protection. The
can, however, unwind their bought protection byterminating the position with the original counterparty. The original counterparty(protection seller) may ensure that the protection buyer has the underlying at thetime of unwinding.
are not permitted to unwind the protection by enteringinto an offsetting contract.In order to restrict the
from holding naked CDS positions i.e. CDS is notbought without underlying; physical delivery is mandated in case of credit events.Further,
are prohibited from selling CDS. Proper caveat may be included inthe agreement that the protection seller, while entering into CDS contract / unwinding, needs to ensure that the protection buyer has exposure in theunderlying. This may also be subject to rigorous audit discipline.