WHAT ARE CREDIT ENHANCEMENTS? TYPES AND STRUCTURE

Credit enhancements are financial contracts between counterparties with the goal of securitiz­ing the credit exposure by mitigating the counterparty credit risk, e.g., default or downgrading. As illustrated in Figure 10.2, there are two main types of credit enhancements: asset-based credit enhancements and counterparty-based credit enhancements. The former concerns itself with financial/intangible and physical collateral and the assets linked to close out netting agreements. The latter are the contractual agreements between guarantors and protection sellers referring to guarantees and derivative instruments.

10.2