Credit default option

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In finance, a default option, credit default swaption or credit default option is an option to buy protection (payer option) or sell protection (receiver option) as a credit default swap on a specific reference credit with a specific maturity. The option is usually european, exercisable only at one date in the future at a specific strike price defined as a coupon on the credit default swap.

Credit default options on single credits are extinguished upon default without any cashflows. Therefore buying a payer option is not a good protection against an actual default, only against a rise in the credit spread. However options on credit indices such as iTraxx and iBoxx include any defaulted entities in the intrinsic value of the option when exercised.

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