Counterparty credit risk

Counterparty Credit Risk is the risk that the counterparty to a transaction could default before the final settlement of the transaction in cases where the contract has a positive value to the non-defaulting party.  For instance, if the value of an FX forward contract is positive to the bank or another financial service provider if the counterparty defaults the bank would fail to realise the value of such contract and thus suffer a loss. Similarly, in an unlikely case when a bank or financial service provider defaults and fails to perform its obligations as per the FX derivative contract, a company may have to replace the hedge with another one at less favourable terms thus suffering the loss too. 

Collateral management is designed to reduce counterparty credit risks for unregulated counterparties, while regulatory oversight by FCA and PRA does the same to reduce counterparty risks of regulated entities such as banks and exchanges.