Credit Glossary
ABCDS: A CDS where the underlying is an Asset Backed Security.
Absolute priority rule (APR): The rule that a junior creditor cannot receive any payment in liquidation until a more senior creditor has been repaid in full.
Acceleration: This is the mechanism by which a creditor requires the debtor to immediately repay in full the outstanding debt. The size of the claim is usually the face value of the debt and will include any accrued interest.
Adequate protection: This is a condition which states that if the value of the collateral falls, a secured creditor is then granted compensation which could be in cash or could be the addition of new liens over other assets of the company.
Arranger: The bank that leads the structuring and syndication of a loan. Also known as the lead arranger.
Asset-backed loan: A loan that is secured by specific assets.
Automatic stay: An injunction which comes into effect without any court order immediately after a bankruptcy filing. Depending on the jurisdiction, it prevents specified classes of creditors from pursing their claims to collect their debts.
Basis Point: 1/100th of 1%. 100 basis points=1%. A common term in fixed income and credit derivative markets.
Basket CDS: A CDS where a group of reference entities are specified in one contract. There are several types of basket CDS including first or Nth-to-default swaps (where settlement is triggered when the first or Nth entity defaults).
Big Bang Protocol: Protocol taking effect on April 8, 2009. The Protocol affects new trades and all legacy trades to adherents. The changes include the hardwiring of the auction mechanism, the definition of the ISDA Determination Committee, and the Lookback Period (today minus 60 days for credit events, and today minus 90 days for succession events).
Calculation Agent: The party responsible for determining when a credit event or succession event has occurred, and for calculating the amount of payment required by the Protection Seller.
CDS Spread: Also called a premium. The amount paid by the Protection Buyer to the Protection Seller, typically denominated in basis points and paid quarterly. For example if the spread for The Widget Company is 200 basis points, the Protection Buyer will pay the Protection Seller 200 basis points multiplied by the notional of the trade annually (typically paid quarterly, on an actual number of days per period/360 basis).
Centre of main interests (COMI): In the context of the European Insolvency regulation, for a company with assets in a number of European jurisdictions, the COMI is the European jurisdiction in which the main bankruptcy proceedings are carried out. The starting point for determination is the location of the company’s registered office. It also determines the main proceedings under the UNCITRAL model law.
CET1 Common Equity Tier I Capital
Charge: A charge is a claim on an asset or assets which prevents them from being sold and the proceeds being passed to the owner without the charge holder’s debt being paid off first.
Claw-back: In certain jurisdictions, certain transactions which were made in a specific period before the filing for insolvency may be voided by the bankruptcy procedure. If these were payments from the company, they may be clawed back from the recipient.
Commitment fee: This is the fee paid by the borrower in a revolving credit facility to the lender for keeping the un-drawn facility available.
Contractual subordination: Subordination of debt that arises as a result of the credit agreements entered into by the creditors. It includes lien and payment subordination. It does not include structural subordination which arises due to where in the corporate structure of the company the debt is issued.
Covenant: A covenant is a condition written into a loan agreement which if broken can trigger an event of default. There are generally two sorts of covenant: maintenance covenants and incurrence covenants.
Covenant-lite: Most loans have both incurrence and maintenance covenants. Covenant-lite loans have bond-like incurrence covenants instead of the maintenance covenants traditionally found in loans.
Cramdown: The legal sanctioning of some plan despite opposition from dissenting creditors. It takes weaker or stronger forms depending on the jurisdiction. Also known as cramming down creditors.
Credit agreement: This is the main document for a loan entered into between a borrower and a lender. It sets out the details of the loan and any obligations and requirements of the borrower.
Credit bidding: Creditors buying the assets of the company using their outstanding debt claims against the company.
Credit Default Swap (CDS): A credit derivative transaction in which two parties enter into an agreement, whereby one party (the Protection Buyer) pays the other party (the Protection Seller) periodic payments for the specified life of the agreement. The Protection Seller makes no payment unless a credit event relating to a predetermined reference asset occurs. If such an event occurs, it triggers the Protection Seller’s settlement obligation, which can be either cash or physical.
Credit Derivative: A form of derivative transaction, for example a Credit Default Swap, designed to transfer credit risk from one party to another.
Credit Event Auction: Industry standard mechanism designed to ease the settlement of credit derivative trades following a credit event. The auction process determines the cash settlement price of a CDS, with the compensation received by the protection buyer based on the final agreed auction price. Markit and Creditex have jointly acted as administrators of the auctions since their inception in June 2005.
Credit Event: This is the event triggering settlement under the CDS contract. Since the original ISDA Agreement in 1999, six categories of Credit Events have been defined:
-
Bankruptcy – Although the ISDA 2003 Definitions refer to different ways a bankruptcy can occur, the experience has been that the reference entity has filed for relief under bankruptcy law (or equivalent law).
-
Debt restructuring - The configuration of debt obligations is changed in such a way that the credit holder is unfavorably affected (maturity extended and/or coupon reduced).
-
Failure to pay - The reference entity fails to make interest or principal payments when due, after the grace period expires (if grace period is applicable in the trading documentation).
Credit Spread Curve: The curve display of the credit spread for a unique reference entity/tier/currency/doc clause combination over different tenors.
CVA Credit valuation adjustment (can be either UCVA or FTDCVA).
Debenture: The exact definition of a debenture depends on the jurisdiction. In the US, it refers to an unsecured corporate bond. However in the UK it is usually secured.
Default: A contractually specified event which enables a lender to demand repayment (accelerate) subject to a grace period and right to cure.
Derivative: A broad term describing financial instruments that “derive” their value from an underlying asset or benchmark. Many derivatives are designed to transfer some form of risk from one party to another. Included in this broad definition would be: Futures, Options (including caps and floors), Swaps (including CDS and interest rate swaps), Forwards and hybrids of the above.
DIP financing: Financing provided to a company while it is in a restructuring phase which is typically but not always granted priority over other debt. The best known example is the DIP loan facility in US Chapter 11 procedures which has priority over existing debt and other claims.
DIP: This stands for Debtor in Possession and is the legal term for the company management in the course of a US style Chapter 11 restructuring. The term is used by analogy in other jurisdictions to represent the trustee or manager of a company in a restructuring process.
DTCC: Depository Trust & Clearing Corporation provides clearance, settlement and information services for equities, corporate and municipal bonds, government and mortgage-backed securities and over-the-counter derivatives. The CDS matching and confirmation service provides automated, real-time matching and confirmation for standard single reference entity CDS (including North American, European, Asian corporate credits, and sovereign credits), as well as CDS indices.
DVA Debt valuation adjustment (can be either UDVA or FTDDVA).
DVA2 Funding debt adjustment (see FDA).
EBITDA: Earnings before interest, tax, depreciation and amortization; a simple measure of cash flow used by credit analysts to determine the ability of companies to service their debts. It is also used in the financial ratio tests found in maintenance and incurrence covenants.
EC Economic capital.
ES Expected shortfall.
Event of default (EoD): A specific event set out in the credit agreement which has not been remedied or waived after any grace period and which allows creditors to accelerate their debt.
Exemption: A right granted to a debtor to exclude certain assets from being taken by the creditor in satisfaction of debt.
FDA Funding liability adjustment (same as DVA2).
First-lien loan: A loan that has the first claim over a borrower’s assets. This can be because it was perfected first.
Fixed charge: A fixed charge is a security over a specifically designated asset. The creditor does not own or possess the asset, but the owner must obtain the consent of the creditor before it can be dealt with. If the debtor defaults then the creditor can apply to the court for an order to sell the asset or appoint a receiver to take ownership.
Floating charge: A floating charge is a general obligation which does not link to any specific asset, but is over a class of assets, both current and future, which the debtor is allowed to buy and sell. It is only when a default occurs on a debt payment (or in certain other circumstances) that the floating charge “fixes” as the debtor is no longer allowed to buy and sell assets without the permission of the debtor.
Forbearance: An agreement between the debtor and the creditor to delay the repayment of a loan or to reduce the interest rate.
Foreclosure: The process by which a creditor enforces a lien following default of the debtor. The collateral is seized and sold with the proceeds used to satisfy the debt.
FRTB Fundamental Review of the Trading Book.
FTDCVA First-to-default CVA.
FTDDVA First-to-default DVA.
FTP Funds transfer pricing.
FVA Funding valuation adjustment.
GAAP: Generally accepted accounting principles.
Guarantee: An agreement for one entity to become liable for the debts of another. A subsidiary (e.g. OpCo) guaranteeing the debt of a parent company (e.g. HoldCo) is called an “upstream” guarantee.
HY High-yield debt: Bonds which have a sub-investment grade credit rating.
Immovable property: Real estate assets used for security.
IFRS International Financial Reporting Standards.
IM Initial margin.
Incurrence covenant: A covenant which is tested on the occurrence of some legally specified event.
Indenture: This is the main credit document for a bond.
Index Roll: Process which, for the Markit iTraxx and Markit CDX indices, takes place twice a year in March and September to create a new index series. The previous index becomes off-the-run, and the new index is the new on-the- run series.
Insolvency: The state of a company which has failed a solvency test. This may be an inability to pay debts as they fall due or it may be due to the company debt exceeding its assets. Which test is used depends on the jurisdiction.
Intercreditor agreement: An agreement entered into by creditors, that sets out how different classes of creditors will manage their rights and remedies set out in the credit agreement. For example, first and second-lien creditors will enter into an intercreditor agreement which sets out their respective rights.
Involuntary bankruptcy: A bankruptcy filing initiated by one or more creditors which may be opposed by the debtor.
ISDA: The International Swaps and Derivatives Association is the global trade association representing participants in the privately negotiated derivatives industry, a business covering swaps and options across all asset classes (interest rate, currency, commodity and energy, credit and equity). ISDA was chartered in 1985.
KVA Capital valuation adjustment (the banking notion of risk margins)
LCDS: A CDS contract where the underlying instrument is a syndicated loan, senior secured in the capital structure.
Leveraged buyout (LBO): The purchase of the shares of a company using debt secured against the assets of the company.
Leveraged loan: A loan perceived as having a weak credit risk. There is no one formal definition but it generally includes loans paying a spread over Libor above 200bp where the issuer is rated BB or below.
LIBOR: London Interbank Offered Rate – An interest rate fixing in the interbank market, representing the rate at which highly-rated banks will lend to one another. Also widely used as a floating rate reference on interest rate and currency swaps, and floating rate notes. LIBOR is calculated daily for a variety of currencies including USD and GBP. The EUR equivalent is EURIBOR and the JPY equivalent is TIBOR.
Lien: This is a security granted to a creditor against some debtor property. If the debtor defaults, the creditor with the lien can retain the property until some legal duty has been fulfilled.
Long Credit: Refers to the position of the CDS Protection Seller who is exposed to the credit risk and who receives periodic payments from the Protection Buyer.
Maintenance covenant: A bond or loan covenant that, unlike an incurrence covenant, is checked periodically or at all times.
Margin grid: A margin grid, also known as a pricing grid, links the spread paid on the loan to the credit rating of the company or agreed financial ratios (e.g. Net Debt/EBITDA). If the rating improves or the ratio improves from a credit perspective, the margin will also fall.
Markit CDX: Markit credit indices focused on North America. Investment Grade, High Yield, and Emerging Markets are the three major sub-indices.
Markit iTraxx: European and Asian CDS indices owned by Markit. The Markit iTraxx represents the most liquid part of the CDS market for Asia and Europe.
MCDS: A CDS contract where the underlying is a municipality, and the reference obligation is either a Revenue Liability, a General Obligation Liability, a Moral Obligation Liability or a Full Faith and Credit Liability.
Moratorium: A period during which a debtor’s obligation to make interest and principal payments is suspended.
Moveable assets: Assets which are not real-estate property.
MtM Mark-to-market.
MVA Margin valuation adjustment.
Notional Principal: The quantity of the underlying asset or benchmark to which the derivative contract applies.
Off-the-run / On-the-run: Markit iTraxx and CDX indices ‘roll’ every six months when a new series of the index is created with updated constituents. The previous series continues trading although liquidity is concentrated on the new series. The new series is referred to as being on-the-run, with previous series referred to as being off-the-run.
OIS rate Overnight index swap rate.
OTC: Over The Counter – Refers to trades negotiated and conducted directly between two parties. This contrasts with trades conducted on exchanges, where the trades are defined by the rules of the particular exchange. CDS are examples of an OTC-traded instrument.
Pari passu: A term used to describe that obligations have the same degree of priority between themselves.
Payment in kind (PIK): PIK stands for payment in kind and means that in certain circumstances, rather than pay a coupon in cash, the coupon will be paid in the form of new bonds which are added to the total amount to be repaid in cash at maturity.
Perfection: An act, often by means of public registration, by which a security interest will become effective against subsequent interests.
Pledge: In English law a pledge is a form of security which gives the creditor a possessory right to a pledged asset. It is usually created by delivering the pledged asset to the creditor.
Present Value: An asset valuation method, which maps future cash flows from an asset and discounts the future cash flows by an appropriate discount rate.
Priming: This term refers to the procedure whereby new loans obtain a priority over existing loans which become subordinate or “primed”. The best example of priming occurs when DIP loans are created in a US Chapter 11 procedure.
Protection Buyer: This is the party to a CDS contract which pays a premium for protection in case a credit event occurs. The Protection Buyer can also speculate that the cost of protection will rise and profit from selling the CDS contract at a higher price than was paid.
Protection Seller: This is the party to a CDS contract receiving the premium payments, and who is exposed to the credit risk of the reference entity.
RACET1 Risk-adjusted CET1.
RC Reserve capital.
Recovery Rate: Estimate of percentage of par value that bondholders will receive after a credit event. CDS for investment grade bonds generally assume a 40% recovery rate when valuing CDS trades. However, CDS for lower rated bonds are more dynamic and often reflect lower estimated recovery rates.
Reference Entity: Refers to the legal entity that is the subject of a CDS contract. The reference entity can be the issuer or the guarantor of the debt.
Reference Obligation: The specific bond (debt obligation) that is referenced in the CDS contract.
Rehabilitation: A procedure undertaken by a company in bankruptcy which usually includes a restructuring of the company’s debt and a reorganization of its business activities with the aim of the company emerging from insolvency as a going concern.
Restructuring Credit Event: One of the types of credit events (defined above). It is a “soft” event, in which the loss to the owner of the reference obligation is not obvious [do we want to say this?]. In addition, restructuring often retains a complex maturity structure, so that debt of different maturities may remain outstanding with significant differences in value.
Retention of title: A form of quasi-security over moveable assets in which the supplier of an asset to a debtor retains ownership of the assets until they paid for.
Revolving line of Credit: Also known as a “revolver”, this is a loan which allows the borrower to borrow repay and borrow again up to a certain limit at a pre-agreed interest rate and for a pre-agreed period. Second-lien loans Loans which are secured by collateral of the issuer but which are only covered by what is left once the first-lien loan holders have been full repaid. They also may have weaker maintenance covenants than first-lien loans.
SCR Shareholders' capital at risk.
Secured debt: A debt which is secured by some lien on some asset of the debtor company which can be seized and sold in satisfaction of the debt. The debt is secured only to the value of the asset.
Series: Term which identifies the series of a specific index, and its main characteristics. In September 2008, Markit rolled the Markit CDX IG index to series 11. Series 11 has a maturity of December 20, 2013, and fixed coupon of 150 basis points. In March 2009, Markit will roll the Markit CDX IG index to series 12.
Set-off: The application of mutual debits and credits in reduction of each other. It may be mandatory following bankruptcy in some jurisdictions.
Settlement: What occurs in the case of a credit event. Settlement can be cash or physical delivery, depending on the terms of the contract. Traditionally, CDS specified physical delivery but in the last three years numerous auctions have been held to allow for cash settlement.
Short Credit: This is the credit risk position of the Protection Buyer, who sold the credit risk of a bond to the Protection Seller.
SNAC (Standard North American Corporate Contract): Defines trades confirmed on the new CDS conventions, with full coupon, subject to the Big Bang Protocol (determination committee, auction hardwiring, lookback period).
Standstill: A period during which creditors agree not to engage in any enforcement action in order to allow the debtor and creditor to work on a plan of restructuring.
Stay: A legal constraint which halts any actions by unsecured creditors seeking payment on their claims in the courts. If the stay is comprehensive it also includes secured creditors as it prevents them from enforcing their security.
Structural Subordination: Structural subordination is a form of subordination different from the contractual subordination usually set out in the credit documentation and is concerned with how much recovery a creditor receives based on his position within a company structure consisting of a holding company, financial company and operating companies.
Swap: An agreement between two parties to exchange future cash flows or credit risk.
TRC Target reserve capital (same as risk-neutral XVA).
Tenor: Refers to the duration of a CDS contract. Most CDS are written with 5 year terms, and this remains the most liquid and frequently quoted part of the credit curve; however other tenors, such as the 10 year, are becoming more common.
Term loan: This is typically a senior secured bank loan which may be syndicated and which is for a specific period at the end of which it is repaid in full. It typically pays interest as a margin or spread over Libor.
Tier: Refers to one of four levels of debt in the capital structure of the reference entities. Each tier represents a different level of seniority or preference in liquidation or bankruptcy. There will generally be different levels for CDS protection for each of the tiers.
-
Junior
-
Preferred
-
Senior
-
Subordinated
Upfront: Refers to the initial (i.e. upfront) lump sum payment made when entering a CDS transaction. Upfront payments tend to apply to transactions where the credit quality of the entity referenced is poor – in other words, where the perceived risk of the entity defaulting is high. It ensures the Protection Seller receives a payment upon trade execution that reflects the riskiness of the contract.
Version: Each index series is identified by a version number. After an index rolls, the initial version will be one. To represent removal of constituents because of credit events and early termination (for LCDX), a new version of the index is published. For example Markit CDX HY 11 v1 was the version of the Markit CDX HY index launched at the roll of September 2008. After the removal of Tribune Company because of bankruptcy, a new version Markit CDX HY 11 v2 was published. After the removal of Nortel Networks Corporation, a new version was published, Markit CDX HY 11 v3.
UCVA Unilateral CVA.
UDVA Unilateral DVA.
VM Variation margin.
Voluntary Bankruptcy: A bankruptcy filing initiated by the debtor.
Waiver: A waiver can be granted by a majority of creditors to a debtor on request following an event of default and means that the creditors agree to forego their right to accelerate the debt. Once agreed to, this event of default cannot be used to accelerate the debt.
Winding up: A termination of the business activities and liquidation of the assets of a company with the proceeds being distributed to creditors based on priority.
XVA Generic "X" valuation adjustment