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1
Bomfim, Antulio N. "Credit Default Swaps." Finance and Economics Discussion Series 2022, no. 023 (May 6, 2022): 1–27. http://dx.doi.org/10.17016/feds.2022.023.
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Credit default swaps (CDS) are the most common type of credit derivative. This paper provides a brief history of the CDS market and discusses its main characteristics. After describing the basic mechanics of a CDS, I present a simple valuation framework that focuses on the relationship between conditions in the cash and CDS markets as well as an approach to mark to market existing CDS positions. The discussion highlights how the 2008 global financial crisis helped shape current practices and conventions in the CDS market, including the widespread adoption of standardized coupons and upfront premiums and the increased reliance on centralized counterparties. I also address CDS indexes--focusing on their growing role as key indicators of investors’ attitudes toward credit risk--and briefly examine their behavior during periods of acute financial or economic dislocations, including those associated with the COVID-19 pandemic.
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Schmaltz, Christian, and Periklis Thivaios. "Are Credit Default Swaps Credit Default Insurances?" Journal of Applied Business Research (JABR) 30, no. 6 (October 29, 2014): 1819. http://dx.doi.org/10.19030/jabr.v30i6.8900.
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No, they are not. Although they exhibit similar cash flow patterns (economic perspective) this article argues that from a legal, accounting and regulatory perspective credit default swaps (CDS) are not considered to be an insurance contract. The protection buyer of a CDS is eligible to obtain the compensation without suffering any loss (and potentially realizing a gain) whereas insurance policies only pay out to compensate a loss (and not potentially realizing a gain). This disconnect between protection and exposure is the source for potential over-coverage. Furthermore, the concentrated set of reference entities and (interbank) counterparties as well as their tradeability make CDSs highly systemically significant products. Our conclusion is that CDSs are not default insurance policies. We propose to use default protection instead of credit default insurance to avoid the mislabelling. Furthermore, CDS have a substantial systemic risk potential which sharply contrasts to the limited systemic risk in the insurance industry. The legal classification of CDS as insurance contracts would have an enormous impact on the liquidity of CDS, as the ability of counterparties to issue and participate in CDS contracts would be limited.
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Spuchlakova, Erika, and Maria Misankova. "Risk management of Credit Default Swap." New Trends and Issues Proceedings on Humanities and Social Sciences 3, no. 4 (March 22, 2017): 229–34. http://dx.doi.org/10.18844/prosoc.v3i4.1573.
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Credit derivatives are an up to date innovation in financial markets. These financial instrument have a potential to allow enterprises to trade and manage the credit risks and market risks. The striking growth of credit derivatives suggest that participant of financial markets find them to be useful instrument for risk management. The most popular and fundamental credit derivatives is a credit default swaps (CDS). In the paper we detailed the risk management of the credit default swaps and quantified the credit risk of investors in two way: (i) calculate the term structure of default probabilities from the market prices of traded CDS and (ii) calculate prices of CDS from the probability distribution of the time-to-default  Keywords: credit risk; credit default swap; risk management
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Kregzde, Arvydas, and Gediminas Murauskas. "ANALYSIS OF LITHUANIAN CREDIT DEFAULT SWAPS." Journal of Business Economics and Management 16, no. 5 (April 29, 2015): 916–30. http://dx.doi.org/10.3846/16111699.2014.890130.
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This paper studies international sovereign Credit Default Swaps (CDS) market focusing attention to the CDS of Central and East Europe. The main purpose of the study was to perform detail analysis of Lithuanian CDS in the global capital market. We compared the CDS markets of other countries and found some commonalities between them. We study the credit curve produced by CDS and volatility of CDS. A great attention is paid to investigate the relationship of CDS and the government bond market. Analysis of finding a leading role of CDS and the bond markets in the price discovering process is made. A leading market for different periods is found by using the Vector Error Correction model. Our main finding is that during the volatile period price discovery takes place in the bond market and in the calm period price discovery is observed in the CDS market. Disclosed relationship between CDS spreads and Eurobonds yield risk premium gives an additional decision making tool for sovereign debt managers.
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BRIGO, DAMIANO, and KYRIAKOS CHOURDAKIS. "COUNTERPARTY RISK FOR CREDIT DEFAULT SWAPS: IMPACT OF SPREAD VOLATILITY AND DEFAULT CORRELATION." International Journal of Theoretical and Applied Finance 12, no. 07 (November 2009): 1007–26. http://dx.doi.org/10.1142/s0219024909005567.
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We consider counterparty risk for Credit Default Swaps (CDS) in presence of correlation between default of the counterparty and default of the CDS reference credit. Our approach is innovative in that, besides default correlation, which was taken into account in earlier approaches, we also model credit spread volatility. Stochastic intensity models are adopted for the default events, and defaults are connected through a copula function. We find that both default correlation and credit spread volatility have a relevant impact on the positive counterparty-risk credit valuation adjustment to be subtracted from the counterparty-risk free price. We analyze the pattern of such impacts as correlation and volatility change through some fundamental numerical examples, analyzing wrong-way risk in particular. Given the theoretical equivalence of the credit valuation adjustment with a contingent CDS, we are also proposing a methodology for valuation of contingent CDS on CDS.
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Narayanan, Rajesh, and Cihan Uzmanoglu. "Credit Default Swaps and Firm Value." Journal of Financial and Quantitative Analysis 53, no. 3 (April 2, 2018): 1227–59. http://dx.doi.org/10.1017/s0022109017001235.
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This article provides evidence that firm value declines when credit default swaps (CDSs) are initiated and that the effect is greater when CDS trading activity is higher. This decline, which arises from an increase in the cost of capital as opposed to a decrease in free cash flows, traces to a deterioration in the firm’s credit quality and stock liquidity. Firm value declines less when CDS trading is likely to produce incremental information, suggesting that CDS trading has informational benefits for firm value. However, the evidence does not indicate that firm value increases because CDS availability facilitates investments.
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BRIGO, DAMIANO, NICOLA PEDE, and ANDREA PETRELLI. "MULTI-CURRENCY CREDIT DEFAULT SWAPS." International Journal of Theoretical and Applied Finance 22, no. 04 (June 2019): 1950018. http://dx.doi.org/10.1142/s0219024919500183.
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Credit default swaps (CDS) on a reference entity may be traded in multiple currencies, in that, protection upon default may be offered either in the currency where the entity resides, or in a more liquid and global foreign currency. In this situation, currency fluctuations clearly introduce a source of risk on CDS spreads. For emerging markets, but in some cases even in well-developed markets, the risk of dramatic foreign exchange (FX)-rate devaluation in conjunction with default events is relevant. We address this issue by proposing and implementing a model that considers the risk of foreign currency devaluation that is synchronous with default of the reference entity. As a fundamental case, we consider the sovereign CDSs on Italy, quoted both in EUR and USD. Preliminary results indicate that perceived risks of devaluation can induce a significant basis across domestic and foreign CDS quotes. For the Republic of Italy, a USD CDS spread quote of 440 bps can translate into an EUR quote of 350[Formula: see text]bps in the middle of the Euro-debt crisis in the first week of May 2012. More recently, from June 2013, the basis spreads between the EUR quotes and the USD quotes are in the range around 40[Formula: see text]bps. We explain in detail the sources for such discrepancies. Our modeling approach is based on the reduced form framework for credit risk, where the default time is modeled in a Cox process setting with explicit diffusion dynamics for default intensity/hazard rate and exponential jump to default. For the FX part, we include an explicit default-driven jump in the FX dynamics. As our results show, such a mechanism provides a further and more effective way to model credit/FX dependency than the instantaneous correlation that can be imposed among the driving Brownian motions of default intensity and FX rates, as it is not possible to explain the observed basis spreads during the Euro-debt crisis by using the latter mechanism alone.
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Hastuti, Dwi, Muhammad Edhie Purnawan, and Sunargo Sunargo. "Pengaruh variabel-variabel di sektor riil dan perbankan terhadap Shock Credit Default Swap (CDS) di Indonesia." e-Journal Perdagangan Industri dan Moneter 7, no. 3 (December 26, 2019): 185–204. http://dx.doi.org/10.22437/pim.v7i3.13071.
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The rapid development of the global financial market today is getting faster and integrated with the existence of advanced technology. Along with economic issues in various worlds, directly related to the global economic crisis that occurred in 2008-2009 greatly influenced the development of credit default swaps (CDS) in developing countries such as Indonesia. The increase in the value of the credit default swap, which carries a high risk of default, will further impact investor confidence and weaken the exchange rate. This is reflected in the shocks of the global crisis and the subprime mortgage prime in the United States. However, the onset of a global crisis can be early with early indicators of crisis from credit default swaps so that crisis management can be carried out faster. The results of this study indicate that the credit default swap is responded to faster by the banking sector than the real sector.
Keywords: Financial crises, Credit Default Swap (CDS), Riil and banking sector
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Brigida, Matt. "CREDIT DEFAULT SWAPS AND BANK SAFETY." Applied Finance Letters 11 (October 3, 2022): 19–27. http://dx.doi.org/10.24135/afl.v11i.594.
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In this analysis we find evidence that credit default swap (CDS) purchasesincrease bank safety. Specifically, we show banks which were net buyers ofCDS had smaller increases in loan loss reserves in response to the COVID-19crisis. Previous research had speculated that bank CDS purchases causedincreased risk-taking by banks which offset the effect of the hedge. This anal-ysis contributes to this literature on the effect of hedging on bank risk takingand capital structure. Moreover, since our results are consistent with CDSbeing effectively used to hedge, our results have implications for systemicrisk.
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Kregzde, Arvydas, and Gediminas Murauskas. "Analysing Sovereign Credit Default Swaps of Baltic Countries." Verslas: Teorija ir Praktika 16, no. 2 (June 30, 2015): 121–31. http://dx.doi.org/10.3846/btp.2015.551.
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The paper analyses development of the Baltic sovereign CDS market. The level of commonalities and differences in credit risk of the Baltic countries with regard to CDS spreads is investigated. We apply principal component analysis, regression analysis, correlation analysis methods and Granger causality test. Driving forces for changes of CDS spreads in the individual country are established. We discover that the main impact of CDS spread changes arrives from external sources. Our study reveals interdependence between CDS spreads of the Baltic countries and analyses a contagion effect of the change of CDS spreads.
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Xu, Haifeng. "Book Review for “Credit Default Swap Markets in the Global Economy” by Go Tamakoshi and Shigeyuki Hamori. Routledge: Oxford, UK, 2018; ISBN: 9781138244726." Journal of Risk and Financial Management 11, no. 4 (October 25, 2018): 68. http://dx.doi.org/10.3390/jrfm11040068.
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Credit default swaps (CDS) came into existence in 1994 when they were invented by JP Morgan, then it became popular in the early 2000s, and by 2007, the outstanding credit default swaps balance reached $62 trillion. [...]
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Kiesel, Florian, Felix Lücke, and Dirk Schiereck. "Regulation of uncovered sovereign credit default swaps – evidence from the European Union." Journal of Risk Finance 16, no. 4 (August 17, 2015): 425–43. http://dx.doi.org/10.1108/jrf-02-2015-0025.
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Purpose – This study aims to analyze the impact and effectiveness of the regulation on the European sovereign Credit Default Swap (CDS) market. The European sovereign debt crisis has drawn considerable attention to the CDS market. CDS have the ability of a speculative instrument to bet against a sovereign default. Therefore, the Regulation (EU) No. 236/2012 was introduced as the worldwide first uncovered CDS regulation. It prohibits buying uncovered sovereign CDS contracts in the European Union (EU). Design/methodology/approach – First, this paper measures spread changes of sovereign CDS of the EU member states around regulation specific event dates to detect whether and when European sovereign CDS reacts to regulation announcements and the enforcement of regulation. Second, it compares the CDS long-term stability of the EU sample with a non-EU sample based on 44 non-EU sovereign CDS entities. Findings – The results indicate widening CDS spreads prior to the regulation, and stable CDS spreads following the introduction of the regulation. In particular, sovereign CDS of European crisis-hit entities are stable since the regulation was introduced. Originality/value – The results show that since the regulation of uncovered CDS in the EU has been enacted, the sovereign CDS market is stable and less volatile. Based on the theory about speculation on uncovered sovereign CDS by betting on the reference entity’s default, the introduction of Regulation (EU) No. 236/2012 appears to be an appropriate measure to stabilize markets and reduce speculation on sovereign defaults.
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Berndt, Antje, and Anastasiya Ostrovnaya. "Do Equity Markets Favor Credit Market News Over Options Market News?" Quarterly Journal of Finance 04, no. 02 (June 2014): 1450006. http://dx.doi.org/10.1142/s2010139214500062.
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Credit default swap (CDS) and equity options markets often experience abnormal swings prior to the announcement of negative credit news. Option prices reveal information about such forthcoming adverse events at least as early as credit spreads, except for negative earnings announcements. Prior to negative credit news being announced, the equity market does not respond to abnormal movements in option prices unless that information has also manifested itself in credit spreads, perhaps because options are perceived as more likely to trade on unsubstantiated rumors than default swaps.
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ITKIN, A., V. SHCHERBAKOV, and A. VEYGMAN. "NEW MODEL FOR PRICING QUANTO CREDIT DEFAULT SWAPS." International Journal of Theoretical and Applied Finance 22, no. 03 (May 2019): 1950003. http://dx.doi.org/10.1142/s0219024919500031.
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We propose a new model for pricing quanto credit default swaps (CDS) and risky bonds. The model operates with four stochastic factors, namely: the hazard rate, the foreign exchange rate, the domestic interest rate, and the foreign interest rate, and allows for jumps-at-default in both the foreign exchange rate and the foreign interest rate. Corresponding systems of partial differential equations are derived similar to how this is done by Bielecki et al. [PDE approach to valuation and hedging of credit derivatives, Quantitative Finance 5 (3), 257–270]. A localized version of the Radial Basis Function partition of unity method is used to solve these four-dimensional equations. The results of our numerical experiments qualitatively explain the discrepancies observed in the marked values of CDS spreads traded in domestic and foreign economies.
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Wu, Shenghong, Pei Mu, Jiaxian Shen, and Wenyi Wang. "An Incentive Mechanism Model of Credit Behavior of SMEs Based on the Perspective of Credit Default Swaps." Complexity 2020 (December 2, 2020): 1–8. http://dx.doi.org/10.1155/2020/6639636.
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The rapid development of credit default swap (CDS) market has changed the manner of credit risk management of banks to some extent and has had a new influence on the bank-enterprise credit model. In this study, the credit financing process of credit risk in small- and medium-sized enterprises (SMEs) gathers within a bank, which makes it difficult for SMEs to raise funds. On the basis of the perspective of CDS, we construct an incentive game model of bank-enterprise credit behavior and analyze the influence mechanism of the credit financing of SMEs on CDS contract coupon rate, CDS payout ratio, bank-enterprise credit effort, and loan recovery rate when considering CDS. The result shows that the CDS contract leads to insufficient supervision after a bank loan, the moral hazard of the SMEs rises, and the probability of credit default events increases. In addition, in view of CDS, the SMEs can access more credit funds.
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HEIDER, PASCAL. "AN IMPLIED VOLATILITY MODEL DETERMINED BY CREDIT DEFAULT SWAPS." International Journal of Theoretical and Applied Finance 15, no. 07 (November 2012): 1250049. http://dx.doi.org/10.1142/s0219024912500495.
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In this paper we propose a diffusion model relating the stock price dynamics to the CDS spread dynamics of a company by assuming a linear relationship between instantaneous stock volatility and CDS spread. To value contingent claims under this model we apply a finite elements discretization to the associated pricing partial differential equation. A robust calibration strategy is presented and numerical examples are studied to validate the model assumptions. Besides option pricing, we discuss further applications which are e.g. the identification of market situations allowing volatility and capital structure arbitrage.
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Lando, David. "Credit Default Swaps: A Primer and Some Recent Trends." Annual Review of Financial Economics 12, no. 1 (November 1, 2020): 177–92. http://dx.doi.org/10.1146/annurev-financial-012820-013740.
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The credit default swap (CDS) remains an important class of derivatives contract despite the declining activity in the single-name corporate market. I provide a quick introduction to the contracts, the pricing formula used to interpret the market premiums, the development in trading volumes, and some key insights that are important for understanding its role in markets. I then take a closer look at the CDS-bond basis and the role of trading and regulatory frictions. Finally, the European sovereign debt crisis brought back in focus the notion of a quanto spread, which I explain.
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Chen, Wenting, Xin-Jiang He, and Xinzi Qiu. "Analytically Pricing Credit Default Swaps Under a Regime-Switching Model." Fluctuation and Noise Letters 18, no. 03 (July 16, 2019): 1950021. http://dx.doi.org/10.1142/s0219477519500214.
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In this paper, we consider the valuation of a CDS (credit default swap) contract when the reference asset is assumed to follow a regime-switching model with the volatility allowed to jump among different states. Our motivation originates from empirical evidence demonstrating the existence of regime-switching in real markets. The default probability is analytically derived first, based on which a closed-form formula for the CDS price is obtained so that it can be easily implemented for practical purposes. Finally, numerical experiments are carried out to show quantitatively some properties of the CDS price under the regime-switching model.
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NG, LESLIE. "NUMERICAL PROCEDURES FOR A WRONG WAY RISK MODEL WITH LOGNORMAL HAZARD RATES AND GAUSSIAN INTEREST RATES." International Journal of Theoretical and Applied Finance 16, no. 08 (December 2013): 1350049. http://dx.doi.org/10.1142/s0219024913500490.
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In this work, we present some numerical procedures for a wrong way risk model that can be used for credit value adjustment (CVA) calculations. We look at a model that uses a multi-factor Hull–White model for interest rates and a single-factor lognormal Black–Karasinski default intensity model for counterparty credit, where the default intensity driver is correlated with all interest rate drivers. We describe how a trinomial tree-based approach for implementing single factor short rate models by Hull and White (1994) can be modified and used to calibrate the intensity model to credit default swaps (CDSs) in the presence of correlation. We also provide approximate pricing methods for CDS options and single swap contingent CDS contracts. The latter methods could also be used for model calibration purposes subject to data availability.
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Romanyuk, Kirill. "Impact of the COVID-19 Pandemic on the US Credit Default Swap Market." Complexity 2021 (November 30, 2021): 1–5. http://dx.doi.org/10.1155/2021/1656448.
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The COVID-19 pandemic affected the US economy at different levels. Since credit default swaps can be viewed as a default probability indicator, the article shows the credit default swap market perspective on how the US economy was hit by the pandemic. Forecasting models are built to estimate the predictability of the CDS market sectors during the pandemic, i.e., manufacturing, energy, banks, consumer goods, and services and financial sector excluding banks. Econometric tests are applied to check the uniqueness of credit default swap market sectors after the declaration of the pandemic. The results indicate that the financial sector excluding banks performed uniquely during the pandemic; i.e., the predictability of this sector dropped significantly, and the Chow breakpoint test and Wald coefficient test can identify the shift in the data after declaration of the pandemic.
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Callen, Jeffrey L., Joshua Livnat, and Dan Segal. "The Impact of Earnings on the Pricing of Credit Default Swaps." Accounting Review 84, no. 5 (September 1, 2009): 1363–94. http://dx.doi.org/10.2308/accr.2009.84.5.1363.
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ABSTRACT: This study evaluates the impact of earnings on credit risk in the Credit Default Swap (CDS) market using levels, changes, and event study analyses. We find that earnings (cash flows, accruals) of reference firms are negatively and significantly correlated with the level of CDS premia, consistent with earnings (cash flows, accruals) conveying information about default risk. Based on the changes analysis, a 1 percent increase in ROA decreases CDS rates significantly by about 5 percent. We also find that (1) CDS premia are more highly correlated with below-median earnings than with above-median earnings and (2) CDS premia are more highly correlated with earnings of low-rated firms than with earnings of high-rated firms. Evidence indicates further that short-window earnings surprises are negatively and significantly correlated with CDS premia changes in the three-day window surrounding the preliminary earnings announcement, although the impact is concentrated in the shorter maturities.
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Du, Lijing, Adi Masli, and Felix Meschke. "Credit Default Swaps on Corporate Debt and the Pricing of Audit Services." AUDITING: A Journal of Practice & Theory 37, no. 3 (July 1, 2017): 117–44. http://dx.doi.org/10.2308/ajpt-51858.
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SUMMARY Previous studies document that lenders lack incentives to monitor borrowing firms or to make concessions during bankruptcy if these lenders insure against corporate default with credit default swaps (CDS). This article investigates whether external auditors increase their audit fees for those client firms that have their debt referenced by CDS. In a comprehensive sample of U.S. companies from 2001–2015, we find that CDS-referenced companies incur larger audit fees compared to companies without CDS. The economic magnitude of the audit fee increase ranges from 5.4 percent to 11 percent, depending on the econometric specification employed. Deteriorating corporate conditions or other observable characteristics do not explain the positive association between CDS trading and audit fees, or the increase in audit fees following CDS initiations. The findings suggest that auditors increase their professional skepticism and monitoring efforts of CDS-referenced clients; they might also expect higher liability losses. JEL Classifications: G10; G30; G33; G34.
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Wu, Ming, Wenya Lv, and Qiuji Sun. "Optimizing Price of Credit Default Swaps for Dynamic Project System of Public-Private Partnership." Discrete Dynamics in Nature and Society 2018 (July 16, 2018): 1–10. http://dx.doi.org/10.1155/2018/7280974.
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Most project operations management belongs to the type of public-private partnership (PPP), which is usually dynamic. This paper aims to propose a method for optimizing the price of credit default swaps (CDS) for the dynamic PPP system. This study investigates the credit risk measurement of PPP project financing and the pricing of risk mitigation instruments which are widely used in the case of immature markets in the early stage of China’s PPP development. Based on the credit risk measurement theory of the corporate and debt ratings, this paper considers the differences in various credit enhancement methods in the equity-like debt agreement and determines the credit rating of the equity-like debt in PPP projects. Some optimization methods are also proposed to derive the probability of default, so as to determine the price of the credit risk mitigation instrument of CDS which is based on the equity-like debt.
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Batta, George Eli, Jiaping Qiu, and Fan Yu. "Credit Derivatives and Analyst Behavior." Accounting Review 91, no. 5 (January 1, 2016): 1315–43. http://dx.doi.org/10.2308/accr-51381.
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ABSTRACT This paper presents a comprehensive analysis of the role of credit default swaps (CDS) in information production surrounding earnings announcements. First, we demonstrate that the strength of CDS price discovery prior to earnings announcements is related to the presence of private information and the illiquidity of the underlying corporate bonds, consistent with the CDS market being a preferred venue for informed trading. Next, we ask how the information revealed through CDS trading influences the output of equity and credit rating analysts. We find that post-CDS trading, the dispersion and error of earnings per share forecasts are generally reduced, and downgrades by both types of analysts become more frequent and more timely before large negative earnings surprises, suggesting that the CDS market conveys information valuable to financial analysts.
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Senarath, Shanuka, Pelma Rajapakse, Jan Job de Vries Robbé, Naveen Wickremeratne, and Maduka Subasinghage. "Being Naked - et Quo hinc?: Developing a ‘Skin-in-the-Game’ Solution for Credit Default Swaps." International Journal of Financial Studies 10, no. 4 (October 10, 2022): 94. http://dx.doi.org/10.3390/ijfs10040094.
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A credit default swap (CDS) is a derivative financial instrument that provides insurance against credit risk. CDSs on subprime Asset Backed Securities (ABSs) paved the way for securitizers to hedge the credit risk of the underlying subprime loans during the onset of the Global Financial Crisis (GFC). Thus, mortgage originators were least concerned about the quality of loans they securitize since they could hedge the default risk via CDS, paving way to a moral hazard concern. We argue that the core issue pertaining to CDSs, moral hazards, remains unattended even after a decade since the GFC. This paper, utilizing a lexonomic approach embedded in the second-best efficiency criteria, examines the mechanism behind a CDS and develops a regulatory framework with the view of minimizing moral hazards associated with CDSs. Our analysis indicates that incorporating an ‘excess’ on CDSs may minimize moral hazards, since originators are compelled to bear part of the risk associated with assets they create.
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Oner, Hakan, and Selma Oner. "How Does Credit Default Swap Premiums Affect the Turkish Financial Markets." Quarterly Journal of Econometrics Research 8, no. 1 (December 7, 2022): 11–22. http://dx.doi.org/10.18488/88.v8i1.3222.
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One of the most important risks of today's financial markets is credit risk. Credit risk is very important for investors investing in international markets, and therefore it is vital to manage credit risk correctly. Credit Default Swaps (CDS) are at the forefront of the most important financial products that ensure the elimination of credit risk. In this study, the relationship between 5-Year Turkey CDS premium, which is an important indicator for investors, Turkish Borsa Istanbul (BIST) 100 Index, USDTRY foreign exchange rates and 2-Year Turkish benchmark bonds interest rates are examined. For this purpose, econometric analysis was applied using CDS premium, BIST 100 index, USDTRY and 2-Year Turkish benchmark bonds interest rate data, which consists of 2921 daily observations from 10 March 2010 to 08 March 2022. Augmented Dickey-Fuller and Phillips-Perron root tests are used to determine the stationarity of the variables. Then, the Granger Causality test, Impulse-Response Function and Variance Decomposition Analysis are used. According to the results of the study; a bilateral causality relationship was determined between CDS premiums and BIST 100 index, USDTRY exchange rate and benchmark bond interest rates. According to the Impulse-Response functions analysis, a 1% increase in CDS premium prices increases the USDTRY rate and benchmark bond interest rates, while lowering the BIST 100 index.
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Rubtsov, Nikolay. "Credit Derivatives as a Factor of Systemic Risk." Moscow University Economics Bulletin 2014, no. 5 (October 30, 2014): 27–42. http://dx.doi.org/10.38050/01300105201452.
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The article analyzes the functioning of credit derivatives (first of all credit default swaps, or CDS) as a factor of systemic risk. The article examines the impact of credit default swaps on the functioning of the entire modern financial system, states that one of the myths about credit derivatives lies in the fact that they supposedly reduce the risk. In fact, they only transfer risk from one person to another, willing to take the risk. The end result of this risks transformation is a close interdependence between all participants of credit markets and the huge concentration of risks in the hands of individual players, who in case of unforeseen situations face the inability to pay on their obligations. The result is a domino effect that leads to a crisis of the financial system. The 2008 events is a vivid example of such a situation.
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Lee, Dongyoup. "The Information in Credit Default Swap Volume." Journal of Derivatives and Quantitative Studies 24, no. 3 (August 31, 2016): 479–504. http://dx.doi.org/10.1108/jdqs-03-2016-b0005.
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This article examines the informational content of credit default swap (CDS) net notional for future stock and CDS prices. Using the information on CDS contracts registered in DTCC, a clearinghouse, I construct CDS-to-debt ratios from net notional, that is, the sum of net positive positions of all market participants, and total outstanding debt issued by the reference entity. Unlike the ratio using the sum of all outstanding CDS contracts, this ratio directly indicates how much of debt is insured with CDS and therefore, is a natural measure of investors’ concern on a credit event of the reference entity. Empirically, I find crosssectional evidence that the current increase in CDS-to-debt ratios can predict a decrease in stock prices and an increase in CDS premia of the reference firms in the next week. Greater predictability for firms with investment grade credit ratings or low CDS-to-debt ratios suggests that investors pay more attention to firms in good credit conditions than those regarded as junk or already insured considerably with CDS.
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TANG, DAN, YONGJIN WANG, and YUZHEN ZHOU. "COUNTERPARTY RISK FOR CREDIT DEFAULT SWAP WITH STATES RELATED DEFAULT INTENSITY PROCESSES." International Journal of Theoretical and Applied Finance 14, no. 08 (December 2011): 1335–53. http://dx.doi.org/10.1142/s0219024911006863.
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In this paper, the counterparty risk is considered in pricing a Credit Default Swap (abbr. CDS). We adopt an intensity-based reduced form model, in which the default intensity processes of the counterpart and the reference credit are modulated by the credit states of the firms. Two Markov chains are used to describe the credit state processes. We set up a model where the default correlation between the counterpart and the reference is described through the Markov chains. A semi-explicit formula for the pricing of CDS with counterparty risk is obtained. We analyze the impacts of default correlations and the state changes on the CDS price through some numerical experiments.
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Augustin, Patrick, and Yehuda Izhakian. "Ambiguity, Volatility, and Credit Risk." Review of Financial Studies 33, no. 4 (July 29, 2019): 1618–72. http://dx.doi.org/10.1093/rfs/hhz082.
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Abstract We explore the implications of ambiguity for the pricing of credit default swaps (CDSs). A model of heterogeneous investors with independent preferences for ambiguity and risk shows that, because CDS contracts are assets in zero net supply, the net credit risk exposure of the marginal investor determines the sign of the impact of ambiguity on CDS spreads. We find that ambiguity has an economically significant negative impact on CDS spreads, on average, suggesting that the marginal investor is a net buyer of credit protection. A 1-standard-deviation increase in ambiguity is estimated to decrease CDS spreads by approximately 6%. (JEL C65, D81, D83, G13, G22) Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.
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Raja, Zubair Ali, William J. Procasky, and Renee Oyotode-Adebile. "The Relative Role of Sovereign CDS and Bond Markets in Efficiently Pricing Emerging Market Sovereign Credit Risk." Journal of Emerging Market Finance 19, no. 3 (July 17, 2020): 296–325. http://dx.doi.org/10.1177/0972652720932772.
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Extant literature reports mixed findings on the relative efficiency of credit default swaps (CDS) and bond markets in pricing emerging market sovereign credit risk. Using a more comprehensive data set than analyzed earlier, we reexamine this issue and find that CDS dominate bonds in the price discovery of this risk, an advantage we attribute to the greater relative liquidity of that market. One exception is during the financial crisis, suggesting that when panic hits, sovereign markets price credit risk differently. However, even then, the CDS market has a greater impact on price discovery than the bond market, indicating greater overall efficiency. JEL Classification: G11, G12, G13, G14, G23
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Plank, René. "Antitrust and Financial Services in the EU: Commitments in Credit Default Swaps (CDS)." Zeitschrift für Wettbewerbsrecht 14, no. 4 (December 8, 2016): 415–28. http://dx.doi.org/10.15375/zwer-2016-0408.
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AbstractFollowing the financial crisis, far-reaching regulation of financial services was introduced to achieve sustainable growth and systemic stability. Whereas regulation tackles broad structural market failures, competition policy addresses harmful behaviour of individual market participants. The systemic risks evidenced in the crisis therefore merit specific additional attention to market failures and imperfect competition in financial services, to address issues such as market power, asymmetric information and entry barriers. This article examines a recent example of antitrust enforcement in financial services, focusing on the rationale and adequacy of using antitrust commitments in this sector, addressing the application of this rationale to the recently adopted Commission Decisions in the Credit Default Swaps (CDS) case. It will place the CDS case in context of antitrust enforcement and regulation in financial services, in particular derivatives, and examine the value added of the CDS commitments and the necessity for antitrust enforcement going forward.
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Abid, Amira, Fathi Abid, and Bilel Kaffel. "CDS-based implied probability of default estimation." Journal of Risk Finance 21, no. 4 (July 21, 2020): 399–422. http://dx.doi.org/10.1108/jrf-05-2019-0079.
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Purpose This study aims to shed more light on the relationship between probability of default, investment horizons and rating classes to make decision-making processes more efficient. Design/methodology/approach Based on credit default swaps (CDS) spreads, a methodology is implemented to determine the implied default probability and the implied rating, and then to estimate the term structure of the market-implied default probability and the transition matrix of implied rating. The term structure estimation in discrete time is conducted with the Nelson and Siegel model and in continuous time with the Vasicek model. The assessment of the transition matrix is performed using the homogeneous Markov model. Findings The results show that the CDS-based implied ratings are lower than those based on Thomson Reuters approach, which can partially be explained by the fact that the real-world probabilities are smaller than those founded on a risk-neutral framework. Moreover, investment and sub-investment grade companies exhibit different risk profiles with respect of the investment horizons. Originality/value The originality of this study consists in determining the implied rating based on CDS spreads and to detect the difference between implied market rating and the Thomson Reuters StarMine rating. The results can be used to analyze credit risk assessments and examine issues related to the Thomson Reuters StarMine credit risk model.
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TENG, LONG, MATTHIAS EHRHARDT, and MICHAEL GÜNTHER. "BILATERAL COUNTERPARTY RISK VALUATION OF CDS CONTRACTS WITH SIMULTANEOUS DEFAULTS." International Journal of Theoretical and Applied Finance 16, no. 07 (November 2013): 1350040. http://dx.doi.org/10.1142/s0219024913500404.
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We analyze the general risk-neutral valuation for counterparty risk embedded in a Credit Default Swap (CDS) contract by adapting the recent findings of Brigo and Capponi (2009) to allow for simultaneous defaults among the two parties and the underlying reference credit, while the counterparty risk is considered bilaterally. For the default intensities, we employ a Markov copula model allowing for the possibility of a simultaneous default. The dependence between defaults of three names in a CDS contract and the wrong-way risk will thus be represented by the possibility of simultaneous defaults. We investigate numerically the effect of considering simultaneous defaults on the counterparty risk valuation of a CDS contract. Finally, we study a CDS contract between Royal Dutch Shell and British Airways based on Lehman Brothers applying this methodology, illustrating the bilateral adjustments with the possibility of simultaneous defaults in concrete crisis situations.
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Rikhotso, Prayer M., and Beatrice D. Simo-Kengne. "Dependence Structures between Sovereign Credit Default Swaps and Global Risk Factors in BRICS Countries." Journal of Risk and Financial Management 15, no. 3 (February 26, 2022): 109. http://dx.doi.org/10.3390/jrfm15030109.
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This study investigates the tail dependence structures of sovereign credit default swaps (CDSs) and three global risk factors in BRICS countries using a copula approach, which is popular for capturing the “true” tail dependence based on the “distribution-adjusted” joint marginals. The empirical results show that global market risk sentiment comoves with sovereign CDS spreads across BRICS countries under extreme market events such as the pandemic-induced crash of 2020, with Brazil reporting the highest bilateral convergence followed by China, Russia, and South Africa. Furthermore, oil price volatility is the second biggest risk factor correlated with CDS spreads for Brazil and South Africa, while exchange rate risk exhibits very low co-dependence with CDS spreads during extreme market downturns. On the contrary, exchange rate risk is the second largest risk factor co-moving with China and Russia’s CDS spreads, while oil price volatility exhibits the lowest co-dependence with CDS in these countries. Between oil price and currency risk, evidence of single risk factor dominance is found for Russia, where exchange rate risk is largely dominant, and policymakers could promulgate financial sector regulations that mitigate spill-over risks such as targeted capital controls when markets are distressed.
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Drobyshevsky, Sergey, Pavel Trunin, Lyudmila Gadiy, and Mariya Chembulatova. "Multidimensional Assessment of Economies by the Level of Sovereign Risk Premium." Moscow University Economics Bulletin 2020, no. 2 (April 30, 2020): 3–27. http://dx.doi.org/10.38050/01300105202021.
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The analysis of the international market for credit default swaps (CDS) shows that the interdependence of sovereign CDS spreads is increasing and the market remains segmented. However, the reduction in the variation of sovereign CDS spreads means increased competition for capital and should be taken into account by monetary authorities of developed countries when they tighten monetary policy. The article shows a significant role of political risks in determining the level of sovereign risk.
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Huang, Xin. "Persistence of Bank Credit Default Swap Spreads." Risks 7, no. 3 (August 26, 2019): 90. http://dx.doi.org/10.3390/risks7030090.
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Credit default swap (CDS) spreads measure the default risk of the reference entity and have been frequently used in recent empirical papers. To provide a rigorous econometrics foundation for empirical CDS analysis, this paper applies the augmented Dickey–Fuller, Phillips–Perron, Kwiatkowski–Phillips–Schmidt–Shin, and Ng–Perron tests to study the unit root property of CDS spreads, and it uses the Phillips–Ouliaris–Hansen tests to determine whether they are cointegrated. The empirical sample consists of daily CDS spreads of the six large U.S. banks from 2001 to 2018. The main findings are that it is log, not raw, CDS spreads that are unit root processes, and that log CDS spreads are cointegrated. These findings imply that, even though the risks of individual banks may deviate from each other in the short run, there is a long-run relation that ties them together. As these CDS spreads are an important input for financial systemic risk, there are at least two policy implications. First, in monitoring systemic risk, policymakers should focus on long-run trends rather than short-run fluctuations of CDS spreads. Second, in controlling systemic risk, policy measures that reduce the long-run risks of individual banks, such as stress testing and capital buffers, are helpful in mitigating overall systemic risk.
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Wang, Anjiao, and Zhongxing Ye. "Credit Risky Securities Valuation under a Contagion Model with Interacting Intensities." Journal of Applied Mathematics 2011 (2011): 1–20. http://dx.doi.org/10.1155/2011/158020.
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We study a three-firm contagion model with counterparty risk and apply this model to price defaultable bonds and credit default swap (CDS). This model assumes that default intensities are driven by external common factors as well as other defaults in the system. Using the “total hazard” approach, default times can be generated and the joint density function is obtained. We represent the pricing method of defaultable bonds and obtain the closed-form pricing formulas. By the approach of “change of measure,” analytical solutions of CDS swap rate (swap premuim) are derived in the continuous time framework and the discrete time framework, respectively.
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Amadori, Maria Chiara, Lamia Bekkour, and Thorsten Lehnert. "The relative informational efficiency of stocks, options and credit default swaps during the financial crisis." Journal of Risk Finance 15, no. 5 (November 21, 2014): 510–32. http://dx.doi.org/10.1108/jrf-04-2014-0044.
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Purpose – This paper aims to investigate informational efficiency of stock, options and credit default swap (CDS) markets. Previous research suggests that informed traders prefer equity option and CDS markets over stock markets to exploit their informational advantage. As a result, equity and credit derivative markets contribute more to price discovery compared to stock markets. Design/methodology/approach – In this study, the authors investigate the dynamics behind informed investors’ trading decisions in European stock, options and CDS markets. This allows to identify the predictive explanatory power of the unique information contained in each market with respect to future stock, CDS and option market movements. Findings – A lead-lag relation is found between the CDS market and the other markets, in which changes in CDS spreads are able to consistently forecast changes in stock prices and equity options’ implied volatilities, indicating how the fast-growing CDS market seems to play a special role in the price discovery process. Moreover, in contrast to results of US studies, the stock market is found to forecast changes in the other two markets, suggesting that investors also prefer stock market involvement to exploit their information advantages before moving to CDS and option markets. Interestingly, these patterns have only emerged during the recent financial crisis, while before the crisis, the option market was found to be of major importance in the price discovery process. Originality/value – The authors are the first to study the lead-lag relationship among European stock, option and CDS markets for a large sample period covering the financial crisis.
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Chen, Yixin, and Junrui Zhang. "The Interdependence of Debt and Innovation Sustainability: Evidence from the Onset of Credit Default Swaps." Sustainability 11, no. 10 (May 23, 2019): 2946. http://dx.doi.org/10.3390/su11102946.
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Innovation sustainability requires sustainable financing. Extensive research suggests that debt is a disfavored source of innovation financing. In this study, we show that a recent financial development, credit default swaps (CDSs), may change the institutional logics of debt, making debt useful to the financing innovation. To be specific, we find that with CDS protection, creditors become less concerned with a borrowing firm’s credit risk and risk taking, making debt tolerant of early failures and reducing the negative impact of debt on the process of Innovation. In addition, we find that the availability of CDSs is more likely to change the nature of long-term debt than that of short-term debt, making long-term debt a useful instrument for the financing of innovation. Finally, the mitigation effect of CDS on the relation between debt and innovation is more pronounced for CDS firms with higher pay sensitivity to stock price volatility (Vega) and less financial constraints, revealing that a CEO’s incentive, rather than the relaxed financing constraints, is the underlying channel for the reduced negative impact of debt on innovation after CDS trading.
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Hilscher, Jens, Joshua M. Pollet, and Mungo Wilson. "Are Credit Default Swaps a Sideshow? Evidence That Information Flows from Equity to CDS Markets." Journal of Financial and Quantitative Analysis 50, no. 3 (June 2015): 543–67. http://dx.doi.org/10.1017/s0022109015000228.
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AbstractThis article provides evidence that equity returns lead credit protection returns at daily and weekly frequencies, whereas credit protection returns do not lead equity returns. Our results indicate that informed traders are primarily active in the equity market rather than the credit default swap (CDS) market. These findings are consistent with standard theories of market selection by informed traders in which market selection is determined partially by transaction costs. We also find that credit protection returns respond more quickly during salient news events (earnings announcements) compared to days with similar equity returns and turnover. This evidence provides support for explanations related to investor inattention.
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MAI, JAN-FREDERIK. "PRICING-HEDGING DUALITY FOR CREDIT DEFAULT SWAPS AND THE NEGATIVE BASIS ARBITRAGE." International Journal of Theoretical and Applied Finance 22, no. 06 (September 2019): 1950032. http://dx.doi.org/10.1142/s0219024919500328.
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Assuming the absence of arbitrage in a single-name credit risk model, it is shown how to replicate the risk-free bank account until a credit event by a static portfolio of a bond and infinitely many credit default swap (CDS) contracts. This static portfolio can be viewed as the solution of a credit risk hedging problem whose dual problem is to price the bond consistently with observed CDSs. This duality is maintained when the risk-free rate is shifted parallel. In practice, there is a unique parallel shift [Formula: see text] that is consistent with observed market prices for bond and CDSs. The resulting, risk-free trading strategy in case of positive [Formula: see text] earns more than the risk-free rate, is referred to as negative basis arbitrage in the market, and [Formula: see text] defined in this way is a scientifically well-justified definition for what the market calls negative basis. In economic terms, [Formula: see text] is a premium for taking the residual risks of a bond investment after interest rate risk and credit risk are hedged away. Chiefly, these are liquidity and legal risks.
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He, Xin-Jiang, and Sha Lin. "An analytical approximation formula for the pricing of credit default swaps with regime switching." ANZIAM Journal 63 (October 2, 2021): 143–62. http://dx.doi.org/10.21914/anziamj.v63.15290.
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We derive an analytical approximation for the price of a credit default swap (CDS) contract under a regime-switching Black–Scholes model. To achieve this, we first derive a general formula for the CDS price, and establish the relationship between the unknown no-default probability and the price of a down-and-out binary option written on the same reference asset. Then we present a two-step procedure: the first step assumes that all the future information of the Markov chain is known at the current time and presents an approximation for the conditional price under a time-dependent Black–Scholes model, based on which the second step derives the target option pricing formula written in a Fourier cosine series. The efficiency and accuracy of the newly derived formula are demonstrated through numerical experiments. doi:10.1017/S1446181121000274
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Tang, Dragon Yongjun, Feng Tian, and Hong Yan. "Internal Control Quality and Credit Default Swap Spreads." Accounting Horizons 29, no. 3 (March 1, 2015): 603–29. http://dx.doi.org/10.2308/acch-51100.
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SYNOPSIS This paper presents the first study on the effects of internal control quality on derivatives pricing. Specifically, we utilize data from the credit default swap (CDS) transactions of well-monitored companies to examine the relationship between the quality of internal control and the cost of debt. CDS data are advantageous for the study of this relationship because CDS contracts are comparatively more homogeneous, standardized, and liquid than either bank loans or public bonds. We find that, all else being equal, companies experiencing internal control material weakness (MW) exhibit higher CDS spreads than companies with effective internal control. Moreover, the MW effect on CDS spreads is more pronounced for company-level MWs than for less severe, account-specific MWs. We also document that CDS spreads increase around the filings of MWs. Furthermore, the deterioration of internal control quality is related to increases in CDS spreads. Finally, short-maturity CDS spreads are more affected by MWs than are long-maturity CDS spreads. JEL Classifications: M41; G32; K22. Data Availability: The data are available from public sources.
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Chen, Yu, and Yu Xing. "Basket Credit Default Swap Pricing with Two Defaultable Counterparties." Discrete Dynamics in Nature and Society 2022 (March 22, 2022): 1–17. http://dx.doi.org/10.1155/2022/3844001.
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In this paper, we study the basket CDS pricing with two defaultable counterparties based on the reduced-form model. The default jump intensities of the reference firms and counterparties are all assumed to follow the mean-reverting constant elasticity of variance (CEV) processes. Taking the Vasicek process which is a special case of CEV process as an example, the approximate analytic solutions of the joint survival probability density, the probability densities of the first default and the first two defaults can be solved by using PDE method. In addition, we also extend the Vasciek process to the Vasciek process with cojumps and obtain the approximate closed-form solutions of the relevant default probability densities. Then with the expressions of the probability densities, we can get the formula of the basket CDS price with two defaultable counterparties. In the numerical analysis, we do sensitivity analysis and compare the basket CDS prices under our model with that with only one defaultable counterparty. The numerical results show that our model can be applied into practice.
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ABAZORIŪTĖ, Aistė, and Arvydas KREGŽDĖ. "RELATIONSHIP BETWEEN LITHUANIAN SOVEREIGN CREDIT RISK AND EQUITY MARKET." Business, Management and Education 13, no. 2 (December 10, 2015): 292–307. http://dx.doi.org/10.3846/bme.2015.295.
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We analyse relationship between Lithuanian sovereign credit risk and equity market. The aim of the paper is to find the impact of the sovereign credit risk, which is expressed in the terms of Credit Default Swaps (CDS), on the movements of stocks prices of Lithuania. We use VAR (vector autoregression) model in order to find the relationship between Lithuanian CDS spread and OMX Vilnius index. We use impulse reaction method to investigate the impact of CDS spreads on the OMX Vilnius index. After analysis of equity index OMX Vilnius and Lithuanian CDS price relationship it was found out that there exists an opposite relationship between these two variables. When the CDS prices are rising, the equity prices decrease and vice versa. The main finding is that Lithuanian capital market returns reacts immediately to the changes of credit risk of Lithuania which is set by the global capital market and expressed by the CDS prices and Lithuanian capital market is under the great foreign pressure.
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Oliveira, Fernando Nascimento de, and Renan Feuchard Pinto. "Determinantes do Bond Spread e do Credit Default Swap: Por que são diferentes? O caso da Petrobras." Revista Contabilidade & Finanças 27, no. 71 (May 20, 2016): 185–201. http://dx.doi.org/10.1590/1808-057x201501840.
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Neste artigo, estudamos os principais determinantes do risco de crédito da Petrobras, medido por meio dos asset swap spreads (ASW) e dos credit default swaps (CDS), replicando os principais trabalhos sobre o tema e analisando se os dois produtos apreçam risco de forma diferente. Nossos resultados permitem concluir que, curiosamente, variáveis específicas da empresa (microeconômicas) são pouco ou nada significativas para explicar a discrepância entre os mercados, e que grande parte da diferença entre eles (também conhecida como CDS-Bond Basis) pode ser explicada pela resposta de cada produto a variáveis macroeconômicas. A principal contribuição deste artigo é ser o primeiro da literatura que trata do tema do risco de crédito ou liquidez de uma empresa brasileira, sob a ótica dos bond spreads e CDS, negociados no mercado externo, além de discutir por que existe diferença entre eles.
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Kim, Hong-Bae, Yeonjeong Lee, Sang Hoon Kang, and Seong-Min Yoon. "Regime Dependent Determinants of Credit Default Swap Spread." Journal of Derivatives and Quantitative Studies 20, no. 1 (February 29, 2012): 41–64. http://dx.doi.org/10.1108/jdqs-01-2012-b0002.
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This study investigates the influence of theoretical determinants on the Korea sovereign CDS spreads from January 2007 to September 2009 based on structural credit risk model. For the analysis of determinants on the sovereign CDS spread, this study adopts interest swap rate as reference interest rate, and decomposes yields curve into two components, ie, interest level and slope. Considering multivariate regression in level and difference variables, Stock returns and Interest rates have a significant effect on the CDS spreads among the theoretical determinants of structural credit risk models. CDS spreads may behave quite differently during volatile regime compared with their behavior in tranquil regime. We therefore apply Markov switching model to investigate the possibility that the influence of theoretical determinants of CDS spread has a regime dependent behavior. In all regimes Korean sovereign CDS spreads are highly sensitive to stock market returns, whereas in tranquil regime interest rates also have influence on CDS spreads. We conclude that for the efficient hedging of CDS exposure trader should adjust equity hedge ratio to the relevant regime.
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Han, Song, and Hao Zhou. "Effects of Liquidity on the Non-Default Component of Corporate Yield Spreads: Evidence from Intraday Transactions Data." Quarterly Journal of Finance 06, no. 03 (August 4, 2016): 1650012. http://dx.doi.org/10.1142/s2010139216500129.
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We estimate the non-default component of corporate bond yield spreads and examine its relationship with bond liquidity. We measure bond liquidity using intraday transactions data and estimate the default component using the term structure of credit default swaps (CDS) spreads. With swap rate as the risk free rate, the estimated non-default component is generally moderate but statistically significant for AA-, A-, and BBB-rated bonds and increasing in this order. With Treasury rate as the risk free rate, the estimated non-default component is the largest in basis points for BBB-rated bonds but, as a fraction of yield spreads, it is the largest for AAA-rated bonds. Controlling for the unobservable firm heterogeneity, we find a positive and significant relationship between the non-default component and illiquidity for investment-grade bonds but no significant relationship for speculative-grade bonds. We also find that the non-default component comoves with indicators for macroeconomic conditions.
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Bouveret, Antoine. "Le marché des Credit Default Swap (CDS)." Économie & prévision 189, no. 3 (2009): 133–40. http://dx.doi.org/10.3406/ecop.2009.7931.
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