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Do correlated defaults matter for CDS premia? An empirical analysis

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  • Christian Koziol
  • Philipp Koziol
  • Thomas Schön

Abstract

Correlated default factors and systemic risk are clearly priced in credit portfolio securities such as CDOs or index CDSs. In this paper we study an extensive CDX data set for evidence of whether correlated default factors are also present in the underlying CDS market. We develop a cash-flow-based top-down approach for modeling CDSs from which we can derive the following major contributions: (1) Correlated default factors did not matter for CDS prices prior to the financial crisis in 2008. During and after the crisis, however, their importance increased strongly. (2) We observe that correlated default factors primarily impact on the CDS prices of firms with an overall low CDS level. (3) Idiosyncratic risk factors for each single CDS play a major (minor) role when the CDS premia are high (low). Copyright European Union 2015

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  • Christian Koziol & Philipp Koziol & Thomas Schön, 2015. "Do correlated defaults matter for CDS premia? An empirical analysis," Review of Derivatives Research, Springer, vol. 18(3), pages 191-224, October.
    • Handle: RePEc:kap:revdev:v:18:y:2015:i:3:p:191-224
    DOI: 10.1007/s11147-015-9109-4
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    Cited by:

    1. Matthias Pelster & Johannes Vilsmeier, 2018. "The determinants of CDS spreads: evidence from the model space," Review of Derivatives Research, Springer, vol. 21(1), pages 63-118, April.
    2. Elisabeth Paulet & Hareesh Mavoori, 2019. "Globalization, regulation and profitability of banks: a comparative analysis of Europe, United States, India and China," European Journal of Comparative Economics, Cattaneo University (LIUC), vol. 16(2), pages 127-170, December.
    3. Ahmet Kahiloğulları, 2018. "Relationship between credit default swaps, direct foreign investments and Portfolio investments: Time Series Analysis for Turkey," Prizren Social Science Journal, SHIKS, vol. 2(3), pages 50-62, December.
    4. Pelster, Matthias & Vilsmeier, Johannes, 2016. "The determinants of CDS spreads: Evidence from the model space," Discussion Papers 43/2016, Deutsche Bundesbank.

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    More about this item

    Keywords

    Correlated defaults; Systemic risk; Idiosyncratic risk; Collateralized debt obligations; Credit default swaps ; Credit derivatives; G14; G21;
    All these keywords.

    JEL classification:

    • G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies; Insider Trading
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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