| Credit Linked Note 101 |
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| 12/11/2006 | |
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Dr. Andreas Zahn, Head of International Finance Germany and partner at the international law firm Ashurst, answers this week's question on Credit Linked Notes. 1. What is a Credit Linked Note? A credit linked note (CLN) is a debenture with an embedded credit derivative. The CLN is well established in international structured finance transactions. In its basic structure, the protection buyer issues a note where interest and/or capital is (re)paid to the noteholder (protection seller) only as far as a contractually pre-defined credit event has not occurred. If a credit event occurs, the CLN will in principle be redeemed in an amount reflecting the remaining value of a certain asset to which the credit events refer. When determining a credit event as a relevant trigger, reference is typically made to the ISDA Credit Derivatives Definitions. 2. How can it meet the needs of institutional clients? Institutional investors, such as insurance companies, pension and investment funds, and savings banks are making more use of CLNs. The drivers are attractive yields, diversification and the opportunity to participate in and attain a certain risk exposure. For credit institutions, the out-placement of credit risk to such investors enables them to provide more funds to corporate grade debtors. 3. In what scenario would the issue of a synthetic CLN bear credit risk? Credit risks are structurally embedded in the credit default swap (CDS) between the protection buyer and the protection seller. In case a pre-defined credit event occurs in relation to the defined reference asset, the protection seller provides for a credit default payment. Credit events may comprise liquidation, insolvency, failure to pay or restructuring. 4. How are payments made? The credit default payment may be made as an agreed fixed amount, in the amount of the par value in exchange for physical delivery of the reference asset, or in the amount that is the difference between the par value and the recovery value of the reference asset following the credit event. The protection buyer is obliged to pay a premium in a one-bullet amount or on a quarterly basis in case of longer maturities |
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Articles of the same Serie : 101 |
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