What Is iTraxx? Overview of the Credit Derivatives Index

The iTraxx index is a key benchmark in the credit derivatives market, allowing investors to manage credit risk and gain exposure to corporate debt. It consists of credit default swaps (CDS) on a basket of companies, enabling traders to hedge against defaults or speculate on changes in creditworthiness.

Its influence has grown, shaping pricing and risk management strategies for banks, asset managers, and hedge funds. Understanding its mechanics offers insight into broader credit market trends.

Types of Indices

The iTraxx family of indices provides exposure to different credit market segments, helping investors tailor strategies based on risk tolerance and outlook. The most widely followed indices include iTraxx Europe, which tracks investment-grade corporate debt from major European companies, and iTraxx Crossover, which focuses on sub-investment-grade issuers with higher credit risk.

Sector-specific indices such as iTraxx Financials and iTraxx Non-Financials allow investors to isolate credit risk within banking institutions or non-financial corporations. iTraxx Senior Financials and iTraxx Subordinated Financials further differentiate between senior and subordinated debt, reflecting differences in repayment priority.

For exposure outside Europe, indices like iTraxx Asia ex-Japan and iTraxx Australia track corporate debt in their respective regions, helping global investors manage credit risk across different economic cycles and regulatory environments.

Eligibility Criteria

Inclusion in the iTraxx index requires meeting strict criteria to ensure liquidity, creditworthiness, and market relevance. Companies must have sufficiently high credit ratings from agencies like Moody’s, S&P, or Fitch to keep the CDS contracts actively traded and reliable for risk management.

Liquidity is another key requirement. Companies must have an actively traded CDS market with enough transaction volume to support efficient pricing. Market makers and dealers assess trading activity to determine eligibility.

The index also maintains geographic and sector diversification, preventing overconcentration in any industry or country. Companies from sectors such as energy, healthcare, and telecommunications are included to ensure broad corporate credit representation.

Roll Dates

The iTraxx indices update twice a year, in March and September, to reflect current credit market conditions. During each roll, a new series replaces the existing one, incorporating adjustments to maintain liquidity and relevance.

Leading up to a roll date, market participants monitor potential changes, as adjustments can impact trading strategies. Names that no longer meet eligibility requirements may be removed, while new issuers can be added. As the roll date approaches, trading activity increases, particularly in the expiring series, as investors transition positions to the new series.

Pricing Conventions

Pricing of iTraxx indices is standardized for transparency and consistency. Quoted in basis points, the index spread represents the cost of protection against defaults for the underlying entities. A higher spread indicates increased credit risk, while a tighter spread reflects stronger market confidence.

iTraxx indices follow a fixed coupon structure, with predetermined spread levels set at issuance. If the market spread deviates from the fixed coupon, an upfront payment is made between counterparties. When the spread widens, protection buyers compensate sellers for increased credit risk. If the spread tightens, sellers may owe an upfront payment to buyers due to reduced default probability.

Settlement Mechanisms

Settlement of iTraxx index trades accounts for credit events such as defaults, bankruptcies, or debt restructurings.

There are two primary settlement methods: physical and cash. In physical settlement, the protection buyer delivers defaulted bonds or loans to the protection seller in exchange for par value. However, cash settlement has become the standard due to its simplicity. In this approach, an auction process coordinated by the International Swaps and Derivatives Association (ISDA) determines the recovery value of the defaulted entity’s debt. The difference between this recovery value and the bond’s original face value dictates the payout to the protection buyer.

For index trades, settlement is typically handled through “compensation for loss,” where the index provider calculates the impact of a defaulted entity on the overall index value. This eliminates the need for physical settlement of individual CDS contracts, allowing investors to receive or pay a net amount based on the calculated loss. This approach enhances liquidity and reduces operational risk, making it easier for investors to manage positions efficiently.