The negative basis - Credit Default Swap contracts and credit risk during the financial crisis

Master's Thesis from the year 2010 in the subject Economics - Finance grade: 5.0 (Schweiz) University of Zurich (Wirtschaftswissenschaften) language: English abstract: The current developments in the credit or bond markets influenced by the financial crisis and the economic downturn revive a discussion about credit derivatives as an instrument of speculation and one cause or determinant of the financial crisis. Currently CDS are used to speculate against the solvency of the different governments. Critics look at CDS contracts as Overthecounter (OTC) instruments that are not regulated and as bilateral contracts which can have a big influence on the financial position of market participants and on the real credit markets. CDS contracts are mainly instruments for investors to insure against a default of the debtor. For the seller of the CDS they are a possibility to participate in risks he perhaps could not have taken on the bond markets otherwise. These contracts separate the default risk of the debtor from the market conditions e.g. the market interest rates. They make it possible to only trade the credit risk of a company or a country. Therefore they can be instruments to proof the bond values and indicators for the real credit risk of the underlying. The discussion about CDS contracts is mostly a discussion including many prejudices and it deals with aspects from different topics which cannot be mixed. Therefore a clear picture of advantages and disadvantages and especially values and risks of CDS is difficult to be found in the current public discussion and economic newspaper articles. A further phenomenon is that bond markets and CDS markets have lost their connection in the financial crisis. So the credit risk on both markets is valued differently: the prices on the two markets differed so much that market participants used these arbitrage possibilities to earn credit riskfree money for themselves and their customers It can be traded with a simple com