Which of the following is NOT an advantage of Credit Derivatives?

In the context of credit derivatives, understanding their advantages is crucial, and one significant aspect is the role they play in isolating credit risk. Credit derivatives, such as credit default swaps (CDS), enable investors to manage and transfer credit risk effectively without needing to actually buy or sell the underlying asset. This leads to a clearer assessment and management of credit exposure.

Additionally, credit derivatives facilitate the efficient shorting of credit risk. This means that investors can take positions that benefit from a decline in credit quality or defaults, allowing for more nuanced investment strategies and the ability to hedge against potential downturns.

Another key advantage is their ability to provide liquidity during market stress. In times of financial turmoil, credit derivatives can allow market participants to transact even when the underlying assets are illiquid, creating avenues for risk management and potentially stabilizing markets.

In contrast, increased transaction costs represent a disadvantage rather than an advantage of credit derivatives. While credit derivatives play a significant role in credit risk management, the costs associated with entering and maintaining positions can reduce the overall benefit they provide. Therefore, identifying increased transaction costs as an option helps recognize that it does not align with the generally perceived advantages of these financial instruments.