With investors increasingly concerned over the outstanding debt in the secondary market, they are now demanding higher risk premiums, which is costing Citigroup a lot more money for its credit default swaps.
A credit default swap will pay the one buying it face value if a borrower defaults on the debt. They receive the cash equivalents or underlying securities which collateralized the debt.
When a basis point increases, that means the cost of credit swap defaults go up, as a basis point represents 0.01 percent point, the equivalent of $1,000 a year to protect $10 million worth of debt.
As are result of that increase in basis points, Citi will now have to pay $205,000 for every $10 million five-year senior bonds of the bank. That’s very expensive, and other financial institutions like Goldman Sachs (NYSE:GS), are even higher than that, standing at 215 basis points; up from Wednesday’s close of 190.
I think the reason for the fear is the conflicting economic reports and actual real-world circumstances, which have been conflicting with one another, causing investors and the markets to cease up some, and when there is uncertainty and resultant fears, the outcome is always a run for safety, or demand for more safety, which is what is driving up the cost of credit default swaps for Citigroup and others.