Can someone explain this in plain English? I didn’t know the gov held CDSs. I’m sure this is interesting news and would like to understand it. Thanks!
I’ll try a plain English. Apologies if I either make mistakes or cover ground you already know.
The gov’t doesn’t hold the CDS. A Credit Default Swap (CDS) is essentially an insurance policy against a bond defaulting.
The gov’t wouldn’t buy or sell the CDS, but the bond holder and a counter party would. Think of the counter party as the insurance company. If someone is holding 10-year treasuries (or any other kind of debt), they can buy CDS to protect against a default.
Where it can get interesting is you don’t need to own the bonds to buy and sell CDS. Even if neither one of us owned a bond, we could enter into a CDS agreement. It would be similar to betting on a football game, but we’d be betting on some security being good or failing. There is no regulated market for these things and total value of the CDS market is huge. When you hear someone on the financial news talking about ‘counter party risk’ they’re talking about either the potential liability to whoever wrote the insurance or the potential inability of them to pay up if the bonds they insured default.
This article is saying the CDS premium on 10-year treasuries has set a new record. These rates indicate there’s still a very low perceived risk of default, but the market sees a higher default risk than it did before.
Conventional wisdom is that treasuries don’t have a default risk because the US Gov’t can either tax the citizens to oblivion or print money to repay the debt. The CDS market is telling us that some in the market believe there is a small but increasing risk of Plan C - default.