Counterparty risk is another name for default risk. Creditors could measure the trustworthiness of individuals or companies from credit scores. Thus, the lower the score, the higher the chance of default risk. This article helps identify events that fail credit scores. Practically, there have been various factors impacting credit score.
Those factors cover a client’s payment history, length of credit history, total amount of debt, as well credit utilization. These scenarios are actually the percentage of a borrower’s available credit total. In other words, the scoring number of a borrower’s credit score is in line with the level of counterparty risk to the creditor or lender. The scoring system is: 550 and below is bad. Poor score ranges from 550 to 649. The fair is 650 to 699. Good scores range from 700 to 749. Meanwhile, excellent is 750 and above.
Therefore, it implies that a borrower with a credit score higher than 749 has a low counterparty risk. Meanwhile, a borrower with a low credit score would likely get charged on a high interest rate or premium. This is because the risk of default is higher. The epitome is credit card companies charge high interest rates at 20% for low credit score borrowers. But, they charge almost 0% for those who have high credit scores. If such a case happens for example the borrowers exceed credit card limit the company attaches penalty rate. This could inflict 29% higher annually.
To sum up, products in financial investments like stocks, bonds, options, and derivatives are subject to counterparty risk. Counterparty risk could be identified from rating agencies like Moody’s Standard and Poor’s. Bonds too, when they have higher counterparty risk, the yield payment is also high.
