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Credit Risk
Credit risk refers to the risk of loss likely to cause due to the non - reimbursement of a loan (either the principal or interest or both). It refers to the measure of a person's credit worthiness. People those who have better chances of paying their debts back are reckoned as better risks by lenders. So they will be charged lower interest rates for borrowing the money.
Lenders will charge interest rates based on the risks involved. But interest rates alone cannot cover the risk. Written agreements s are usually made which give the lenders more control over their credits. Usually protective measures like written agreements are made to restrict the borrowers from borrowing further or for monitoring the debts by requiring audits and monthly reports. Above all, the lenders can decide when they can get their credits back from the borrowers.
The most recent introduction for the protection of the lenders from the threat of default of payments is credit derivatives. This is commonly found in the form of credit default swap. They are a kind of financial contracts that allow companies to purchase protection against defaults from a third party who is protection seller.
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