How CDS Contracts Reference Debt Across an Issuer’s Term Structure
Summary
The document explains how issuer-level CDS contracts relate to the bonds and loans underlying an issuer’s credit risk. A CDS is not tied exclusively to one bond: its terms identify one or more reference obligations, while the contract generally covers a broader tier of debt with the same seniority. A credit event involving another eligible obligation may trigger settlement, and physical settlement can allow delivery of eligible debt beyond the named reference obligation.
CDS maturities also need not match the maturities of the issuer’s bonds. Standard contracts mature on specified dates, while customized maturities may be negotiated over the counter. The responses say notionals are not normalized against each underlying bond: protection for a stated notional can generally be settled using eligible debt of that amount, regardless of its maturity or coupon. Near default, this delivery flexibility can affect relative bond prices. The document offers a conceptual explanation rather than quantitative evidence; eligibility and settlement details depend on the contract terms, and physical settlement is described as uncommon.
Key ideas
- A CDS usually references a tier of eligible debt rather than only one specific bond.
- A credit event involving another eligible obligation may trigger the contract.
- Standard CDS maturities follow specified dates and need not match bond maturities.
- CDS notionals are not scaled to the issuer’s outstanding amount of each bond.
- Settlement choices and delivery eligibility can influence bond prices near default.
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# CDS spread term structure # CDS spread term structure As I know a `CDS` is defined w.r.t. some unique Reference bond with a given maturity from a given issuer. Now, an issuer can issue bonds with different maturities and notionals. So, how are the Notional values of the underlying bonds normalized, if at all, in order to construct a term structure of CDS spread from an issuer? ## Answer by Dimitri Vulis (score 1, accepted) https://quant.stackexchange.com/a/73943 This assumption: > CDS is defined w.r.t. some unique Reference bond is not quite true. The term sheet mentions a reference obligation (sometimes more than one), but the swap references the entire tier of debt - all the obligations that are pari passu with the reference obligation(s) on the term sheet, usually all senior unsecured hard-currency bonds. Or bonds and loans if the term sheet says so. If a credit event happens with some other obligation, then it (probably) triggers the CDS. If physical settlement is chosen, which is unusual these days, then the protection buyer can deliver (almost) any other obligation. The maturities of the swaps do not need to align with the maturities of any obligations. A standard swap matures on one of the "IMM Dates" (do not be confused - not the 3rd Wednesday of a month, like some other products "IMM Dates", but the 20th of some months). Typically, the reference obligation is chosen to have a longer matirity than the swap. You may, of course, try to trade an OTC swap with any maturity, including matching some bond or loan maturity, but then it won't be a standard contract. ## Answer by dm63 (score 1) https://quant.stackexchange.com/a/73941 They are basically not normalized. If you buy 100mm of a CDS on an issuer, it gives you the right (in the event of default) to deliver 100mm of an eligible bond of any maturity and any coupon. This can sometimes create unusual pricing effects if an issuer is close to default. For example bonds of different coupons can trade at very similar prices if those bonds are both being sought for delivery into Cds contracts.
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