Illiquid Market and Credit Derivatives. Evidence from the Greek Market by Testing the Credit Derivatives Swap, CDS Spread Points

Credit derivative swap of the Greek market is a financial instrument the value of which is derived from an underlying market value incorporating the credit risk of a bond or a loan. They are used to hedge, to speculate on the spreads through arbitrage. The premium that is incorporated in the default swap, DS, is known as the credit derivative swap spread. The credit risk increases as the ranking and the market price of the bond or loan decrease. If there is a credit event, then an immediate settlement of cash will take place to recover the loss. The seller will pay back to the buyer the difference of the net amount of the principal and the current market value. To minimize the interest and the credit risk of the contract the credit default swap is linked to an interest rate swap or an option. The integration of an interest rate swap with an option is known as swaptions. The purpose of this instrument is to transfer or hedge credit risk. As they are over-the-counter instrument (OTC), they are more tailored to meet specific needs of the counterparties. Thus, there is significant difference with exchange traded derivative products such as standardized futures and options. A standardized swap contract involves the exchange of principals, regular coupon payments and return back of the principal in addition to the last interest payment at the expiration of the swap agreement. The one party is paying a floating interest rate in dollars and the other receives a fixed rate in a foreign currency. At the end of the swap agreement the two parties must return the initial principal in addition to the last coupon payments