Credit · Core
Default Risk
Default risk is the chance the issuer misses a contractual payment — the event credit spread is trying, noisily, to price.
Definition
Legal default is a missed payment, a distressed exchange, or a filing — definitions differ (ISDA vs rating). Risk-neutral PD comes from CDS; real-world PD from ratings and models. Spread ≈ PD × LGD plus premia.
Why it matters
You do not get paid the spread if the default happens. Carry is not a gift.
Case
A HY name at 600bp over. If your PD × LGD is 400bp, you have 200bp of premium — or you are underestimating PD.
How to read it
Define the default event, the recovery, and the horizon. Then ask whether the spread is compensation or a slow-motion loss.
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