ICICI’s & IDBI’s launch of CDS marked Formal Introduction of Local Currency CDS Market in India

India’s largest private lender by assets, ICICI Bank and IDBI Bank, the seventh largest public sector bank in India together launched India’s first credit default swap (CDS) on 7 December 2011. CDS was launched seven days after the product was cleared by the Reserve Bank of India on 30 November 2011. Public sector undertaking Rural Electrification Corporation (REC) bought the CDS cover for its Rs 5 crore loan from ICICI Bank.

The launch of the CDS was a landmark transaction for the domestic corporate debt market and marked the formal introduction of local currency CDS market in India.

IDBI Bank became the country’s first PSU bank to underwrite a CDS transaction in the domestic market for managing credit risks associated with Indian corporate bonds. This is the first transaction of its kind entered by any public sector bank with another bank in India on selling protection in the domestic market on corporate bonds.

The central bank, RBI had issued prudential guidelines on CDS transactions on corporate bonds on 30 November 2011. The guidelines refered to CDS transactions underwritten by Indian operations of foreign banks, Indian banks and overseas branches/subsidiaries/joint ventures of Indian banks.

Benefits

The launch of the CDS market in India will encourage foreign institutional investors to invest in domestic corporate bonds. The investment in domestic corporate bonds will provide much-needed funding for projects, including infrastructure sector projects.

Credit default swaps also will investors to transfer and manage credit risk in an effective manner through redistribution of risk. Such products are expected to increase investors’ interest in corporate bonds and is likely to prove beneficial to the development of the corporate bond market in India.

What is CDS?

A CDS is similar to a traditional insurance policy where it obliges seller of the CDS to compensate the buyer in the event of a loan default. The agreement is that in the event of a default, buyer of the CDS receives the money  which is equivalent to the face value of the loan and seller of the CDS receives the defaulted loan and with it the right to recover it at some later time.