What Is ‘Counterparty Risk’ and How Does a Prime Broker Help Mitigate It?

Counterparty risk is the risk that the other party in a financial transaction will default on their contractual obligations. In large OTC trades, this risk is significant.

A prime broker mitigates this by stepping in as the central counterparty for their clients. By guaranteeing the settlement and clearing of the trades, the prime broker effectively substitutes the credit risk of multiple counterparties with their own, generally higher, creditworthiness.