In its simplest form, a CDS is just a bet on an outcome. Say Bank A writes a million-dollar mortgage to the Pope for a town house in the West Village. Bank A wants to hedge its mortgage risk in case the Pope can't make his monthly payments, so it buys CDS protection from Bank B, wherein it agrees to pay Bank B a premium of $1,000 a month for five years. In return, Bank B agrees to pay Bank A the full million-dollar value of the Pope's mortgage if he defaults. In theory, Bank A is covered if the Pope goes on a meth binge and loses his job.
Can you picture Ratzinger on meth, roaming the empty pavillions of Vatican City by night and swinging his mitre at drug-induced phantoms? Because I can. It's playing on a constant loop on the 8" black-and-white set in that attic bedroom of mine. That's where I spend most of my workdays.