A financial contract where the protection buyer (PB) pays a premium commonly referred to as a spread, to the protection seller (PS). The amount paid will be based on the percentage (basis points) of a notional principal. The notional is agreed up front between the PB and PS. The premium is broken down into two parts. First a fixed coupon is paid by the protection buyer to the protection seller for the life of the contract. It is generally paid quarterly and in arrears. Second the difference between the fixed coupon and the current market spread will be present valued and settled up front. If the current spread is higher than the fixed coupon, the PB pays the PS. If the current spread is lower than the fixed coupon the PS pays the PB. In return the PS agrees to make a payment to the PB, contingent on a credit event.
