## The Credit Risk Transfer Market and Stability Implications for U.K. Financial Institutions

_IMF Working Papers, June 1, 2006_

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## Bibliographic details
- Authors: Li L Ong, Jorge A Chan-Lau
- Published: June 1, 2006
- Series: IMF Working Papers
- DOI: https://doi.org/10.5089/9781451863994.001

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### Summary
- The increasing ability to trade credit risk in financial markets has facilitated its dispersion across the financial and other sectors.
- Specific risks attached to credit risk transfer (CRT) instruments in a market with still-limited liquidity mean that its rapid expansion may actually pose problems for financial sector stability in the event of a major negative shock to credit markets.
- This paper attempts to quantify the exposure of major U.K. financial groups to credit derivatives, by applying a vector autoregression (VAR) model to publicly available market prices.
- Results indicate that use of credit derivatives does not pose a substantial threat to financial sector stability in the United Kingdom.
- Exposures across major financial institutions appear sufficiently diversified to limit the impact of any shock to the market, while major insurance companies are largely exposed to the "safer" senior tranches.

### Key findings
- Use of credit derivatives does not pose a substantial threat to financial sector stability in the United Kingdom.
- Exposures across major financial institutions appear sufficiently diversified to limit the impact of any shock to the market.
- Major insurance companies are largely exposed to the "safer" senior tranches.

### Methodology
- Applied a vector autoregression (VAR) model to publicly available market prices to quantify exposures of major U.K. financial groups to credit derivatives.

### Policy implications / Stability considerations
- Rapid expansion of CRT instruments in a market with still-limited liquidity could pose problems for financial sector stability in the event of a major negative shock to credit markets.
- Diversification of exposures across major financial institutions appears to mitigate the systemic impact of shocks.
- Concentration of insurance company exposures in senior tranches suggests lower-risk positioning within CRT instruments for that sector.

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_Source: https://www.imf.org/en/publications/wp/issues/2016/12/31/the-credit-risk-transfer-market-and-stability-implications-for-u-k-19174_