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Definition

Credit Swap

Credit swap means an agreement between two or more lenders (say two or more banks) where they agree to exchange a portion of their customers loan payments to each other to diversify away some of their credit risk.

An example of credit swap in the following:

A & B are two Banks. They find a swap dealer, such as large insurance company. The swap dealer (an intermediately firm) such as large insurance company agrees to draw up a credit swap contact between two banks.

  • Bank A transmits an amount say $100m in interest and principal payment that it collects from its credit customer to dealers.
  • Bank B transmit all or a portion of its loan payments it customer makes to same dealer.
  • The swap dealer will ultimately pass these payments along to the other banks i.e. Bank A.
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