Herstatt risk: Foreign exchange trades, essentially over the counter ('OTC') trades, give rise to counterparty exposure: if a counterparty was to become insolvent between trade date and the actual settlement of a deal, the investor is exposed to the full extent of the value of the transaction. The term Herstatt Risk derives from the name of a German bank whose banking licence was withdrawn by German regulators at the end of the banking day on 26 June 1974, because of a lack of income and capital to cover liabilities that were due. Other banks had undertaken foreign exchange transactions with Herstatt and had already paid local currency (Deutsche Mark) to the bank during the day, believing they would receive US dollars later the same day in the US from Herstatt's US nostro. But after 3:30pm in Germany (10:30am in New York) Herstatt stopped all dollar payments to counterparties, leaving the counterparties unable to collect their payments.

Counterparty
Counterparty
Settlement
Herstatt risk in our glossary: terms and definitions

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