What Is “Principal Risk” in a Settlement Context?
Principal risk, also known as Herstatt risk, is the risk of losing the full value of the asset being traded (the principal) due to the failure of the counterparty to deliver their side of the trade after the first party has already delivered theirs. It arises from the lack of synchronization in the exchange process.
Delivery Versus Payment (DVP) is designed specifically to eliminate this risk.
Glossar
Principal Risk
Exposure ⎊ The principal risk, within cryptocurrency derivatives, options trading, and broader financial derivatives, fundamentally represents the potential for loss of the initial capital invested.
Delivery versus Payment
Settlement ⎊ The Delivery versus Payment (DvP) framework, prevalent in cryptocurrency derivatives, options trading, and broader financial derivatives markets, synchronizes the physical or digital asset delivery with the corresponding payment.