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Answer: EUR 2 million
## Explanation In trade compression, only contracts on the same reference credit can be compressed. Let's analyze the positions: **Reference Credit: NUMU Inc.** - Long protection: EUR 9 million (with Digital Corporation) - Short protection: EUR 7 million (with WKL Company) **Reference Credit: WKL Company** - Long protection: EUR 6 million (with Digital Corporation) - No offsetting short position **Compression Process:** - Only NUMU Inc. positions can be compressed since they have both long and short positions - Net position on NUMU Inc. = Long 9 million + Short 7 million = Long 2 million - The WKL Company position (Long 6 million) cannot be compressed as there's no offsetting position **Result:** - Compressed notional value = EUR 2 million (net long position on NUMU Inc. after compression) **Why other options are incorrect:** - **A (EUR 1 million)**: Incorrect calculation that may result from netting trades with the same coupon - **C (EUR 8 million)**: Result of netting all trades without considering compression eligibility - **D (EUR 15 million)**: Result of summing positions with the same counterparty Trade compression reduces counterparty risk by netting offsetting positions while maintaining the same market risk exposure, but only works for positions on the same reference credit.
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The head of the structured securities desk at an investment bank directs all derivatives traders on the desk to use trade compressions on all eligible trades to reduce counterparty risk. One of the analysts decides to use trade compression on a portfolio of single-name CDS contracts with the same maturity and transacted with two counterparties, as presented in the table below, to estimate the investment bank's compressed notional value:
| Counterparty | Reference credit | Notional (EUR million) | Bank's position | Coupon (bps) |
|---|---|---|---|---|
| Digital Corporation | NUMU Inc. | 9 | Long protection | 180 |
| Digital Corporation | WKL Company | 6 | Long protection | 150 |
| WKL Company | NUMU Inc. | 7 | Short protection | 150 |
What is the notional value of the investment bank's net contract on compressed trades only?
A
EUR 1 million
B
EUR 2 million
C
EUR 8 million
D
EUR 15 million