What is a Credit-Linked Note?
A credit-linked note (CLN) is a derivative which offers synthetic exposure on an credit default swap (CDS). The difference between a CDS and CLN is that the credit-linked note is an on-balance sheet item. CLNs are primarily used for credit default swaps, but can be used as a hedge for other forms of debt. A company looking to spread its risk for a specific credit event will look to issue CLNs in order to transfer this exposure to credit investors. Special Purpose Companies (SPC) or trusts create the CLNs, which start out with a AAA credit rating and then act as a broker between the credit issuer (company) and credit investors. These notes are offered to investors as both a credit default swap (riskier investment) and the AAA bond at par value. Credit investors are willing take on this credit risk in hopes of receiving a higher yield on their investments than with typical bonds. The trust or third party will then sell default protection in retrun for a premium that subsidizes the coupon
