Explain How the Standardization of Contracts Reduces Counterparty Risk

Standardization means all contracts for a given asset, strike, and expiration are identical and interchangeable. This allows a central clearing house (or a smart contract in DeFi) to step in as the counterparty to every trade.

By becoming the buyer to every seller and the seller to every buyer, the central entity guarantees the fulfillment of the contract, eliminating the risk of default by the original counterparty.