UPDATE 2-Japan’s 1st CDS auction raises hope of more players

* Japan holds first credit event auction on Aiful CDS

* Dealers hope experience will help CDS market grow

* JAL CDS auction already in pipeline

By Rika Otsuka

TOKYO, March 25 (BestGrowthStock) – Japan’s first credit default swap
(CDS) auction went smoothly on Thursday, with dealers setting a
value for consumer lender Aiful Corp’s (8515.T: ) debt, raising
hopes that the credit derivatives market will attract more
players in future.

The Aiful auction was seen as a landmark case for future
single-name CDS auctions and could help expand Japan’s CDS market
by deepening investors’ understanding of the derivatives tool.

In the auction, which was held after nearly three months of
preparation, players worked out a value for Aiful bonds and loans
on which CDS had been sold, and auction administrators Creditex
and Markit then announced that the value had been set at 33.875
percent of par.

CDS are used by investors to protect against the risk of
corporate failure. Through the auction process, the protection
seller pays the buyer the full sum insured minus the recovery
amount, in a cash settlement.

“The auction has helped build infrastructure in the market.
Players will be able to participate in the coming Japan Airlines
CDS auction without worrying,” said Toshihiro Uomoto, a credit
strategist at Nomura Securities.

“Today’s auction was a big step forward in boosting credit

Thursday’s auction is likely to be followed soon by one for
the debt and CDS of Japan Airlines Corp (JAL) (JALFQ.PK: ), after
it filed for bankruptcy in January. [ID:nN21131919]


Japan’s CDS market has fallen behind the global market as
investors previously felt little need to protect themselves from
defaults on corporate bonds, given the majority of issuers in the
country are blue-chip firms.

Also, many banks in Japan were not financially strong enough
to hold large derivatives positions until recently due to the
legacy of the bursting of the “bubble economy” in the 1990s.

The outstanding notional amount of CDS contracts in the world
totalled $36 trillion at the end of June 2009, according to Bank
for International Settlements (BIS) data.

But Japan’s CDS market is much smaller, with the total value
of contracts held at leading Japanese banks accounting for 1
percent of the global CDS market, a Bank of Japan official said.

The International Swaps and Derivatives Association’s (ISDA)
determinations committee included loans and not just bonds, as
many had expected, in the list of the deliverable obligations for
the Aiful CDS auction.

Widening the list to loans could attract more investors
seeking protection for companies’ debt in the future, industry
players say.

“We hope more banks, such as regional banks, will start using
CDSs, with the experience of the Aiful CDS auction helping them
understand this tool can be useful in hedging loans,” said a
credit derivatives trader at a foreign brokerage.

Following the auction, buyers of protection will be paid
661.25 million yen ($7.2 million) per 1 billion yen of insurance
they hold on Aiful debt in cash settlement.

Payments on Aiful CDS were triggered after the consumer
lender in December won backing from creditors to reschedule its
debt repayments. [ID:nTOE5BN04I]

Debt restructuring, default or filing for bankruptcy
protection can be judged a credit event by the derivatives
industry association, triggering a payout on CDS after an auction
determines the value of the debt.

Aiful ranks among the 1,000 most-referenced names in the
global CDS market, with contracts amounting to about $1.3 billion
in net notional value and nearly $20 billion in gross notional

Aiful like other Japanese moneylenders was hit hard by a 2006
law cutting the maximum interest on consumer loans and the amount
customers can borrow.

Investment Tools

(Additional reporting by Hiroyasu Hoshi)

UPDATE 2-Japan’s 1st CDS auction raises hope of more players