Cash Flows from Credit Default Swap

Hard Credit Analysis And Valuation Credit Derivatives

In the context of credit derivatives, consider a company named XYZ Corp, which has a credit default swap (CDS) in place to hedge against the risk of default on its outstanding bonds. The CDS has a notional amount of $10 million and a premium of 200 basis points (bps). If XYZ Corp defaults and the recovery rate on its bonds is estimated to be 40%, which of the following statements accurately describes the final cash flow from the CDS contract to XYZ Corp?

XYZ Corp will receive $6 million from the CDS counterparty.

XYZ Corp will pay $200,000 to the CDS counterparty.

XYZ Corp will receive $4 million from the CDS counterparty.

Hint

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