Counterparty risk

Copyright © 2025 LexisNexis

Published by a LexisNexis Banking & Finance expert

Practice notes

Counterparty risk

Copyright © 2025 LexisNexis

Published by a LexisNexis Banking & Finance expert

Practice notes

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Defining Counterparty risk

Counterparty risk refers to the risk that one party takes in entering into Derivative Contracts with a particular party. This may introduce a number of risks, including reputational or legal risk, but the principal risk is credit risk. This is the risk of that counterparty failing to honour its obligations as and when they become due. Reputational risk can be dealt with at the beginning of negotiations in a decision whether to trade with that counterparty and legal risk can similarly be addressed through legal advice and contractual negotiation. However, the credit risk on a counterparty will continue through the life of a transaction and, as such, will require constant monitoring and the ability to reconsider transactions with that party should the risk be considered to have changed in a material respect.

Measuring counterparty risk

The creditworthiness of a counterparty to a derivative contract may change during the life of a contract. This is particularly true where derivative contracts have long dated maturities. Consequently, the counterparty’s credit quality needs to be measured on a regular basis. If

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Jurisdiction(s):

United Kingdom

Key definition:

Counterparty definition

What does Counterparty mean?

The other party to a transaction.

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