A Credit Default Swap (CDS) is a financial derivative that allows investors to bet on the

creditworthiness of a specific security or group of securities. It is a contract between

two parties where one party, the buyer of the CDS, pays a regular stream of payments
(the "spread") to the other party, the seller of the CDS, in exchange for a payout if the
underlying security defaults or experiences a credit event.
Here's a more detailed explanation of how a CDS works:
• The buyer of the CDS pays a premium, known as the spread, to the seller on a
regular basis, usually every quarter.
• In exchange for these payments, the buyer of the CDS is entitled to a payout from
the seller if the underlying security defaults or experiences a credit event, such
as a downgrade of its credit rating.
• The underlying security of the CDS can be a bond, a loan, or a group of securities,
such as a pool of mortgages.
• The buyer of the CDS is essentially taking on the credit risk of the underlying
security, which means that they will profit if the security defaults or experiences
a credit event.
• The seller of the CDS, on the other hand, is essentially providing insurance
against the credit risk of the underlying security. They will lose money if the
security defaults or experiences a credit event, but will earn a profit from the
spread payments.
It's important to note that CDSs can be used for both speculative and hedging purposes.
Speculative investors use them to bet on the creditworthiness of a security, while
hedging investors use them to protect their portfolio from potential credit losses.
Additionally, CDSs were widely criticized for their role in the 2008 financial crisis, as
they allowed investors to take on significant amounts of credit risk without having to
hold the underlying assets, which contributed to the build-up of systemic risk in the
financial system.