The Bank of England's discussion paper released in November on the supervision of credit derivatives rather dampened market enthusiasm reflected in a report by the British Bankers' Association (BBA). But the effect should be only temporary.
The BBA talked of a $100 billion credit derivatives market in London by 2000. The credit default derivative was born in New York in 1992, but today even American institutions based in London admit that of the two markets London has the edge.
While the industry welcomes the Bank's paper as a timely contribution and it strongly supports the decision to consult the market at an early stage, few practitioners agree with the analysis or the conclusions. Most of the market believes the regulatory proposals do not match the economics of the product.
The Bank of England's paper primarily discusses credit default products and total return products. The former is a derivative with a payout linked to the default of a reference asset. The latter transfers the total economic return of an underlying asset; in the case of a bond, this would be primarily interest rate risk and credit risk. Total return products that are labelled credit derivatives are so called because they primarily transfer credit risk.