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Citigroup markets "zero cost" protection for default

Wed Apr 4, 2007 7:47am EDT

Bonds

By David Wigan

LONDON, April 4 (Reuters) - Citigroup is marketing a version of credit default swaps (CDS) that offer investors insurance against bond defaults at zero upfront cost.

Called Zero Initial Cost Protection (ZICP) the securities bring the concept of "no win, no fee" legal cases to the world of credit derivatives. Like ordinary CDS protection, the product pays out in the event of defaults, but does not require a premium unless and until defaults occur.

The twist is that the total premium payable depends on how many defaults there are and when they arrive. A large number of defaults early in the contract will cost the investor more than conventional protection.

For example, if there is one default over a five-year deal, the investor will pay more than standard protection if the default occurs before six months, but break even after that. If there are two defaults, the economy of the insurance will depend on when the defaults occur -- later being better because the higher premium is paid for less time. "Despite indications of a turning credit cycle, investors or lenders who believe that default rates will take time to pick up may find traditional credit protection an expensive hedge," said Panikos Teklos, a credit strategist at Citigroup.

"The ZICP product is an alternative way of hedging against defaults at zero initial cost that appeals most when you expect a low number of defaults and not anytime soon." Citigroup is offering the protection on bespoke portfolios of varying maturities. The product is typically structured so that it has a cap on the premium in case portfolio losses exceed a pre-determined threshold.

((Reporting by David Wigan, editing by Leslie Gevirtz; david.wigan@reuters.com; Reuters messaging david.wigan.reuters.com@reuters.net 44-20-7542-6414)) Keywords: CITIGROUP CDS/FREE

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