When are the standby letters of credit used in swap agreements?
A)When the counterparty is perceived to be of significantly lower credit quality than the other party.
B)Where the swap agreement is made between parties of equal credit standing.
C)Where the swap agreement is made between high-quality counterparties.
D)When one party posts collateral in lieu of default.
E)When the no-arbitrage condition does not hold good.

Question

Quizplus · Accepted Answer

Standby letters of credit are used in swap agreements when one counterparty is perceived to be of significantly lower credit quality than the other party. They are used to provide a guarantee of payment in case one party defaults on their obligations. This helps to mitigate the credit risk faced by the other party.

When Are the Standby Letters of Credit Used in Swap