11 of the US Bankruptcy Code.
ᔢ See also LIQUIDATION.
CHASTITY BOND A BOND that can be redeemed by the issuing company at PAR VALUE in the event that it becomes the target of a TAKEOVER offer from another company.
CHEAP[COL] An ASSET that is perceived by market participants to be inexpensive compared to alternatives or proxies (i.e., the SPREAD is too wide in the case of a BOND or the price to low in the case of a COMMON STOCK, currency or commodity). Those believing the asset
is cheap will seek to profit by purchasing it, directly, synthetically, or through an ARBITRAGE trade.
ᔢ See also RICH.
CHEAPEST-TO-DELIVER (CTD) The cheapest of a series of ASSETS that are eligible for DELIVERY under an EXCHANGE-TRADED DERIVATIVE contract; the seller selects from the list of deliverables to determine the asset that will yield the greatest return (i.e., lowest cost, narrowest BASIS, or smallest loss).
ᔢ See also CONVERSION FACTOR.
CHECK KITING [COL] An illegal practice involving the writing of checks on two or more non-local BANKS, creating an unauthorized, interest-free LOAN or displaying a larger account balance until the checks are cleared.
CHERRY PICK[COL] A process where a RECEIVER or administrator in a BANKRUPTCY case attempts to have the court honor DERIVA- TIVE contracts (and/or REPURCHASE AGREEMENTS) that benefit the COUNTERPARTY in DEFAULT, while disallowing those that harm it. When a MASTER AGREEMENT is used to document the transactions and the legal jurisdiction recognizes the concept of NETTING, cherry picking cannot occur.
CHEWABLE PILL [COL] A POISON PILL defense clause that gives COMMON STOCK shareholders the right to revoke the pill in the face of a bona fide TAKEOVER offer, or which automatically nullifies the pill if the offer meets certain pre-defined criteria.
CHINESE WALL[COL] A process/structure within a BANK, INVEST- MENT BANK, or SECURITIES FIRM that separates groups that call on clients and arrange deals (i.e., bankers) from those that are privy to non-public information related to those clients (i.e., research analysts).
The intent is to minimize the exchange of sensitive information that might be used for competitive or personal gain.
ᔢ See also OVER THE WALL.
CHIPSSee CLEARINGHOUSE INTERBANK PAYMENT SYSTEM.
CHOICE PRICEIdentical BIDS and OFFERS provided by a MARKET MAKER or DEALER, meaning that a party can execute either side of the trade at the same price.
ᔢ See also LOCKED MARKET.
CHOOSER OPTION An OVER-THE-COUNTER COMPLEX OPTION that permits the buyer to choose between an underlying CALL OPTION and PUT OPTION with identical STRIKE PRICES and maturities from trade date until a defined “choice” date.
ᔢ Also known as a PREFERENCE OPTION, REGULAR CHOOSER OPTION.
ᔢ See also COMPLEX CHOOSER OPTION.
CHURNING[COL] An illegal practice where a BROKER urges clients to trade more actively than necessary in their investment accounts in order to generate more commissions. Accounts that reflect turnover of more than three to five times per year may indicate churning.
ᔢ Also known as OVERTRADING, TWISTING.
CIFSee COST, INSURANCE, FREIGHT.
CIRCLE[COL] See INDICATION OF INTEREST.
CIRCUIT BREAKER[COL] Measures taken to halt TRADING on an EXCHANGE in the event predefined price levels are reached. Circuit breakers are intended to allow market participants to rebalance their positions in an orderly manner without contributing to further price pressures. Common breakers include temporary trading halts, curbs or bans on automated trading programs, and/or hourly/daily price limits.
CITY CODE[COL] Abbreviated form of the City Code on Takeovers and Mergers, a UK code of conduct established in 1968 under the direction of the BANK OF ENGLAND to ensure fair treatment for all parties involved in CORPORATE FINANCE transactions. The City Code defines the roles and responsibilities of BANKS (as advisors), acquir- ing companies, and target companies involved in a MERGER or ACQUISITION.
CLAIM(1) A request for loss indemnification made by an INSURED to an INSURER for a PERIL covered under an INSURANCE contract;
the party submitting the claim is known as a claimant. In order for the claim to result in a SETTLEMENT, terms of the underlying contract must be met and proof of loss must generally be presented.
(2) A general right, or title, to an ASSET or CASH FLOW.
CLAIMS MADE BASISDetermination of whether a CLAIM is covered by an INSURANCE contract. If the contract is written on a claims made basis and if a claim is made when the policy is in effect, the INSURER must pay the INSURED up to the stated amount.
ᔢ See also CLAIMS OCCURRENCE BASIS.
CLAIMS OCCURRENCE BASIS Determination of whether a CLAIM is covered by an INSURANCE contract. If the contract is written on a claims occurrence basis and a claim arises from an event when the policy is in force, the INSURER must pay the INSURED up to the stated amount, regardless of when the claim is actually filed (i.e., filing may occur after the policy has expired).
ᔢ See also CLAIMS MADE BASIS, OCCURRENCE LIMIT.
CLAIMS RESERVE Funds set aside by an INSURER for CLAIMS incurred or for claims outstanding that have not been settled. The claims reserve does not include accounting for losses INCURRED BUT NOT REPORTED.
CLASH LOSSA disaster scenario where various LINES of INSURANCE
are simultaneously impacted by losses. The resulting CLAIMS may be particularly large and can negatively impact the financial condition of INSURERS and REINSURERS.
ᔢ See also CATASTROPHIC HAZARD, SHOCK LOSS.
CLASH REINSURANCE An EXCESS OF LOSS REINSURANCE contract where the INSURER is covered against property and casualty losses when a single CASUALTY event causes losses for at least two CEDING INSURERS.
CLASSIFIED BOARDSee STAGGERED BOARD.
CLASSIFIED STOCKSeparate classes of COMMON STOCK issued by a company, with each class granting investors a distinct set of RENT RIGHTS and/or CONTROL RIGHTS. Classified stock is often used to increase or decrease the voting power of specific groups of shareholders.
ᔢ See also ALPHABET STOCK.
CLAWBACK [COL] The repayment, to RECEIVERS of a company in BANKRUPTCY, of any PREFERENCE payments, or monies deemed to have benefited one party at the expense of others during the period of FINANCIAL DISTRESS.
ᔢ See also PREFERENCE PERIOD.
CLEAN [COL] Matched buy and sell ORDERS on a BLOCK TRADE that leave the MARKET MAKER, DEALER, or intermediary without a RISK position.
ᔢ Also known as NATURAL.
CLEAN OPINIONSee UNQUALIFIED OPINION.
CLEAN PRICE[COL] The price of a BOND quoted without ACCRUED INTEREST.
ᔢ See also DIRTY PRICE.
CLEAN RISKSee SETTLEMENT RISK.
CLEAN-UP REQUIREMENTA requirement that a borrower regularly repays all funds drawn under a REVOLVING CREDIT FACILITY as a way of demonstrating its ability to generate financing from other sources. Inability to meet the clean-up requirement may lead to a cancellation of the facility.
CLEARINGA process where all EXCHANGE-TRADED DERIVATIVE contracts executed during a trading session are registered and reas- signed to the CLEARINGHOUSE. Once reassigned, the clearinghouse becomes the official trade COUNTERPARTY on every transaction (which, along with a client’s posting of MARGIN, helps to mitigate the effects of counterparty CREDIT RISK).
ᔢ See also CLEARING MARGIN, CLEARING MEMBER, HORIZONTAL CLEARING SERVICES.
CLEARING BANK In the United Kingdom, a large retail or wholesale commercial BANK.
ᔢ See also HIGH STREET BANK.
CLEARING MARGIN MARGIN posted by a CLEARING MEMBER with an EXCHANGE on behalf of clients or proprietary accounts.
ᔢ See also INITIAL MARGIN, VARIATION MARGIN.
CLEARING MEMBER An EXCHANGE member that is permitted to clear trades directly with the CLEARINGHOUSE, and which can accept trades for other clearing members and NON-CLEARING MEMBERS.
CLEARINGHOUSE(1) In the DERIVATIVES market, a subsidiary or division of an EXCHANGE or an independently owned entity that is responsible for CLEARING listed FUTURES and OPTIONS trades, computing and collecting daily MARGIN, and arranging for SETTLE- MENT of financial or physical ASSETS related to trades. The CREDIT RISK normally associated with derivatives is neutralized as participants face the CLEARINGHOUSE, rather than each other, as their COUNTERPARTY. (2) In banking, a group of institutions that exchanges checks, drafts, and payment orders on a net basis, resulting in the creation of clearinghouse funds that are accessible within one to three business days.
ᔢ (2) See also CLEARINGHOUSE AUTOMATED PAYMENT SYSTEM, CLEARINGHOUSE INTERBANK PAYMENT SYSTEM.
CLEARINGHOUSE AUTOMATED PAYMENT SYSTEM (CHAPS) An automated CLEARINGHOUSE system in the United Kingdom that is used for large-value, same-day sterling transfers related to DRAFTS and payments.
ᔢ See also BANKERS’ AUTOMATED CLEARING SERVICE (BACS).
CLEARINGHOUSE INTERBANK PAYMENT SYSTEM (CHIPS) A private sector, fully automated CLEARINGHOUSE system in the United States that is used for dollar-based checks and fund transfers, as well as payments associated with securities transactions and FOREIGN EXCHANGE trades.
CLIQUET OPTION An OVER-THE-COUNTER COMPLEX OPTION that allows the buyer to lock in gains at prespecified evaluation inter- vals if the option is IN-THE-MONEY at such points; gains are not relinquished if the market subsequently retraces. If the option is OUT- OF-THE-MONEY on an evaluation date the STRIKE PRICE resets AT-THE-MONEY based on the new market level.
ᔢ Also known as a RATCHET OPTION.
ᔢ See also LADDER OPTION, SHOUT OPTION.
CLOSee COLLATERALIZED LOAN OBLIGATION.
CLONE FUND [COL] A MUTUAL FUND or UNIT TRUST that
attempts to replicate an existing fund through the use of DERIVATIVE contracts rather than actual securities.
CLOSE-OUTThe process of establishing an equal and opposite DERIV- ATIVE position in order to neutralize or offset the RISK of an existing position. Although the close-out cancels the effects of risk, it grosses up the NOTIONAL amount of the contracts, which remain outstanding until final maturity.
CLOSE-OUT NETTING A contractual agreement where an institution and a COUNTERPARTY in DEFAULT agree to ACCELERATION, termination, and NETTING of all financial transactions.
ᔢ See also PAYMENT NETTING, SET-OFF.
CLOSED-END FUND An INVESTMENT COMPANY that raises CAPITAL by issuing a limited number of shares on an EXCHANGE, and invests proceeds in a range of ASSETS on behalf of investors.
Once the initial PORTFOLIO of assets is assembled no new securi- ties are added and few, if any, are sold prior to final maturity. The fund generally provides investors with a fixed return and typically allows no redemptions prior to the stated maturity. Closed-end funds often invest in BONDS or other assets that are ILLIQUID or difficult to price.
ᔢ See also MUTUAL FUND.
ᔢ Also known as INVESTMENT TRUST, UNIT INVESTMENT TRUST.
CMOSee COLLATERALIZED MORTGAGE OBLIGATION.
COAT-TAILING[COL] The practice of replicating the investment strate- gies of institutional investors who are known, or believed, to have exhibited good performance.
ᔢ Also known as PIGGY-BACKING.
ᔢ See also TAILGATING.
CODSee CASH ON DELIVERY.
COINSURANCEA feature of an INSURANCE contract that results in a sharing of losses between the INSURED and INSURER on a pre- determined basis once any DEDUCTIBLE has been met. The insurer’s total obligation under an insurance contract with a coinsurance feature is generally computed via:
⎛ Ins ⎞ Coinspmt=L ––––––
⎝V(Co)⎠
whereLis the amount of the loss, Insis the amount of insurance carried, Vis the value of the insured property, and Cois the coinsurance clause percentage.
Indemnification can never exceed the amount dictated by the coinsur- ance relationship, the POLICY CAP, or the amount of the actual loss.
COLLAR A SPREAD consisting of a LONG CALL OPTION and a SHORT PUT OPTION, or long put and short call, with the same expiry date. The LONG POSITION (which requires payment of PREMIUM) is intended to provide RISK protection or speculative opportunity, while the SHORT POSITION (which results in receipt of premium) helps defray, and in some cases eliminate, the cost of the long option.
ᔢ See also ZERO COST COLLAR.
COLLATERAL ASSETS, such as cash, securities, ACCOUNTS RECEIVABLE, INVENTORY, LETTERS OF CREDIT, or physical property, taken to secure a CREDIT RISK exposure. By accepting collateral, the creditor has an additional source of repayment should its COUNTERPARTY be unable to perform on its obligations.
COLLATERAL RISKThe RISK of loss arising from errors in the nature, quantity, pricing, or characteristics of COLLATERAL securing a transaction with CREDIT RISK. Institutions that actively accept and deliver collateral and are unable to manage the process accurately are susceptible to loss. A sub-category of PROCESS RISK.
COLLATERAL TRUST BONDA BOND secured by a PORTFOLIO of ASSETS owned by the issuer. Unlike a PASS-THROUGH SECU- RITY, the issuer retains sole ownership interest in the assets, which remain on the corporate balance sheet.
ᔢ See also MORTGAGE-BACKED BOND.
COLLATERALIZED BOND OBLIGATION (CBO) A SECURITIZA- TION structure that repackages credit-risky BONDS into TRANCHES with unique RISK and return (YIELD) profiles.
ᔢ See also COLLATERALIZED DEBT OBLIGATION.
COLLATERALIZED DEBT OBLIGATION (CDO)A SECURITIZA- TION structure that repackages credit-risky instruments (such as LOANS, BONDS, or CREDIT DERIVATIVES) into TRANCHES with unique RISK and return (YIELD) profiles. A CDO can be created by a sponsoring BANK or SECURITIES FIRM to transfer the DEFAULT risk in its credit portfolio to investors (BALANCE SHEET CDO) or to take advantage of profit opportunities in repackaging securities (ARBITRAGE CDO). A CDO can be structured as a COLLATERALIZED LOAN OBLIGATION (e.g., pools of loans) or COLLATERALIZED BOND OBLIGATION (e.g., pools of bonds) and can be created using physical instruments (CASH CDO) or credit derivatives (SYNTHETIC CDO). Portfolios may be managed statically (i.e., the portfolio is acquired and held until maturity) or dynamically (i.e., the portfolio changes during the life of the transaction, within certain parameters).
COLLATERALIZED LOAN OBLIGATION (CLO) A SECURITIZA-
TION structure that repackages credit-risky LOANS into TRANCHES with unique RISK and return (YIELD) profiles.
ᔢ See also COLLATERALIZED DEBT OBLIGATION.
COLLATERALIZED MORTGAGE OBLIGATION (CMO) A SECU- RITIZATION structure that repackages pools of MORTGAGE- BACKED SECURITIES, WHOLE LOANS, or mortgage-backed STRIPs into TRANCHES with specific RISK and return (YIELD) profiles. CMO structures are available in many different forms, some of them esoteric, risky, and ILLIQUID. However, the largest portion of the market is centered on standard instruments with reasonable RISK and LIQUIDITY parameters. The most common version of the CMO is based on sequential pay tranching, with COUPON payments, and then PRINCIPAL payments, allocated to investors in order of priority.
Once all the tranches have been retired in sequence, the remaining ACCRUAL BOND (Z-BOND) is paid; since the accrual bond receives no CASH FLOWS until all others have been paid, it protects the cash flow payment stream for the entire structure.
ᔢ See also COMPANION BOND, INTEREST-ONLY STRIP, PLANNED AMORTIZATION CLASS BOND, PRINCIPAL- ONLY STRIP, TARGETED AMORTIZATION CLASS BOND.
COLLUSION A practice where parties act in concert, but without any formal agreement, to set or fix prices on a good, service, or ASSET.
Collusion is considered illegal in many national systems, as it reflects anti-competitive behavior.
COMBINED RATIO A measure of an INSURER’s profitability that compares earned PREMIUMS to losses from expenses and CLAIMS.
The combined ratio is simply a combination of the LOSS RATIO and the EXPENSE RATIO, and is given as:
L+LAE+IE CR= ––––––––––––
Pr
where L is the loss (from claims), LAE is LOSS ADJUSTMENT EXPENSE, IE is incurred expense (e.g., from UNDERWRITING activities), andPris premium.
If the ratio is greater than 100 the INSURANCE underwriting business is unprofitable, if it is less than 100 it is profitable.
COMMERCIAL BANK A financial institution that is permitted through regulatory approval and CORPORATE CHARTER to accept retail and INTERBANK DEPOSITS, extend commercial and retail LOANS, and perform various intermediation and FIDUCIARY duties. In some national systems commercial banks focus strictly on traditional bank- ing services, while in others they have a broader scope, engaging in activities commonly associated with INVESTMENT BANKS or
SECURITIES FIRMS, such as securities UNDERWRITING and TRADING.
ᔢ See also BANCASSURANCE, BANK, UNIVERSAL BANK.
COMMERCIAL GENERAL LIABILITY POLICYAn INSURANCE contract used by a firm seeking to cover RISK exposures to several LIABILITIES simultaneously, such as those arising from premises, products, contracts, contingencies, environmental damage, and FIDUCIARY breaches.
ᔢ See also COMMERCIAL UMBRELLA POLICY, MULTILINE POLICY, MULTIPLE PERIL PRODUCT.
COMMERCIAL LINESThe general category of INSURANCE coverage for business organizations (rather than individuals), including institu- tionally focused policies such as the COMMERCIAL GENERAL LIABILITY POLICY, COMMERCIAL UMBRELLA POLICY, and MULTILINE POLICY.
COMMERCIAL PAPER (CP) Short-term, unsecured discount DEBT securities issued by highly rated financial companies (as FINANCIAL PAPER) and industrial companies (as INDUSTRIAL PAPER).
Although most CP is unsecured, there is also a market for asset-backed CP and LETTER OF CREDIT-backed CP. In the US market CP matu- rities range from overnight to 270 days, while in the EUROMARKETS maximum maturity may extend to 360 days; the most common matu- rities in both markets are in the 14 to 30 day sector. Most CP is issued via DEALERS in the form of BEARER SECURITIES, although issues of REGISTERED SECURITIES are possible. In the US market it is common for CP programs to be partially backed by SWINGLINES so that issuers can access funds in the event they are unable to roll over their maturing notes.
ᔢ See also EURO COMMERCIAL PAPER.
COMMERCIAL UMBRELLA POLICYAn INSURANCE contract that provides protection for very large exposure amounts (well in excess of those that might be obtained through a standard PROPERTY AND CASUALTY INSURANCE policy, a COMMERCIAL GENERAL LIABILITY POLICY or a MULTILINE POLICY). The umbrella policy covers a broad range of INSURABLE RISKS, but serves as an EXCESS LAYER facility rather than a FIRST LOSS cover.
ᔢ See also MULTIPLE PERIL PRODUCT.
COMMITMENT FEE An upfront or annual fee a BANK charges a customer for providing COMMITTED FUNDING or a REVOLVING CREDIT FACILITY. Payment of the commitment fee ensures the facility will not be withdrawn prior to its stated maturity and the borrower will have access to the funds when needed, presuming no COVENANTS have been breached.
ᔢ Also known as FACILITY FEE.
COMMITTED FUNDINGA financing facility provided by a BANK to a borrower, which cannot be withdrawn unless the borrower breaches COVENANTS or other terms of the facility; this means the bank must provide funds when called on to do so, regardless of the market envi- ronment or borrower’s financial condition. Funding facilities where the borrower has paid a COMMITMENT FEE and executed a credit agree- ment without a MATERIAL ADVERSE CHANGE clause or CONTINGENT TRIGGER may be regarded as committed.
ᔢ Also known as COMMITTED LINE.
ᔢ See also BANK LINE, REVOLVING CREDIT FACILITY.
COMMITTED LINESee COMMITTED FUNDING.
COMMITTED UNDERWRITINGSee BOUGHT DEAL.
COMMODITY DERIVATIVE An EXCHANGE-TRADED DERIVA- TIVE or OVER-THE-COUNTER DERIVATIVE with an UNDERLY- ING reference based on non-financial COMMODITIES including chemicals, energy, base and precious metals, livestock, GRAINS, and SOFTS. A commodity derivative can be structured as a COMMODITY FUTURE, commodity FORWARD, commodity OPTION, or COMMODITY SWAP.
ᔢ See also CREDIT DERIVATIVE, CURRENCY DERIVATIVE, EQUITY DERIVATIVE, INTEREST RATE DERIVATIVE.
COMMODITY FUTUREA FUTURES contract, bought or sold via an EXCHANGE, that references a non-financial physical commodity such as chemicals, energy, base and precious metals, livestock, GRAINS, and SOFTS.
ᔢ See also COMMODITY DERIVATIVE, CURRENCY FUTURE, INDEX FUTURE, INTEREST RATE FUTURE.
COMMODITY FUTURES TRADING COMMISSION (CFTC)A US regulatory agency, established in 1974, that is responsible for oversee- ing the EXCHANGE-TRADED DERIVATIVE marketplace. It assigns certain daily regulatory monitoring duties to SELF-REGULATORY ORGANIZATIONS, including the National Futures Association and individual EXCHANGES.
COMMODITY POOL A pool of investment CAPITAL, similar to a MUTUAL FUND or UNIT TRUST, that is invested by professional money managers solely in COMMODITY FUTURES and OPTIONS.
COMMODITY SWAP An OVER-THE-COUNTER SWAP transaction involving the exchange of fixed and floating commodity price refer- ences. Commodity swaps can be written on virtually any physical commodity (e.g. chemicals, energy, base and precious metals, live- stock, GRAINS, and SOFTS) and can be structured to settle in cash or physical.