Explanation:
Systemic risk is the risk that the failure of one large participant in the financial system could trigger a cascade of defaults, leading to severe instability or the collapse of the entire financial system. In OTC markets, the interconnectedness of participants through bilateral agreements heightens this risk, as the default of a major counterparty can cause chain reactions of defaults across other participants.
Ultimate access to all questions.
No comments yet.
Q.6 Over the years, over-the-counter markets have outgrown exchanges because of more flexible regulations and customized transactions. Nevertheless, this flexibility does not come without a cost. Over-the-counter markets are more exposed to systemic risk than exchanges. From the following, choose the most accurate explanation of systemic risk in the context of over-the-counter markets.
A
The risk related to the early settlement by a large market participant, a move that could absorb the liquidity from the entire financial market.
B
The risk related to an unfavorable movement in the underlying, which can trigger early settlement of the contract by the counterparty.
C
The risk related to the complexity and negotiability of OTC contracts, making it difficult for market participants to price the risk correctly.
D
The risk related to a large market participant's default creates a chain reaction of defaults in the entire financial system.