The empirical relationship between the spreads of Credit Default Swaps and Bonds

Redacción Científica , 2010 , 64 Páginas

Economía de las empresas - Inversiones y finanzas

Warren Buffet, the world’s richest man, once said that derivatives are financial “weapons
of mass destruction.” a term popularized by George W. Bush to describe nuclear arms.
Indeed financial derivatives have a far greater impact on the market than their underlying
due to their leverage effect. And the most popular and important credit derivatives
nowadays are credit default swaps with a current notional value of over 60 trillion US
dollars according to ISDA 1 (International Swaps and Derivatives Association) and 58
trillion US dollars according to BIS 2 (Bank for international settlement) respectively. That
is more than the whole world’s gross domestic product in the same year! 3

This paper examines the empirical relationship of CDS premium and credit spread by
testing on their theoretical equivalence derived by Duffie (1999). It begins with an
overview of CDS followed by the theoretical framework. The analysis starts with
explanation of testing methods and description of data. After confirming the existence of
the basis spread, this paper goes on to analyse the interactions of CDS spread and Bond
spread using econometrics methods like Cointegration and Granger Causality tests. Also
examined is the leadership of price discovery process between CDS market and traditional
bond market.

Inhaltsverzeichnis

• The overview of credit default swaps
  • The development of credit default swaps
  • Structure of Credit Default Swaps
  • Regulation of CDS...
  • Participants and usage of CDS.
• Theoretical framework ..
  • valuation of credit default swap.
  • No-arbitrage approach
  • Equivalence relationship between CDS spread and bond spread
  • Methods of econometrics for the analysis..
• Explaining the data
  • Bond Data selection criteria
  • Risk free interest rates selection criteria.
• Empirical analysis ..
  • Basis spread
    • Average basis spread.
    • Factors of the basis spread
    • Test on the existence of basis.
  • Long-term relationship between the spread on both markets.
• Concluding comments.
• Appendix
• Literature

Zielsetzung und Themenschwerpunkte

This paper examines the empirical relationship of CDS premium and credit spread by testing on their theoretical equivalence derived by Duffie (1999). The paper aims to analyze the interactions of CDS spread and Bond spread using econometrics methods like Cointegration and Granger Causality tests. It also examines the leadership of price discovery process between CDS market and traditional bond market.

• The development and structure of credit default swaps (CDS)
• The theoretical framework for the relationship between CDS spreads and bond spreads
• Empirical analysis of the basis spread and its factors
• Long-term relationship between CDS spreads and bond spreads
• Price discovery process in CDS and bond markets

Zusammenfassung der Kapitel

The paper begins with an overview of credit default swaps, including their development, structure, regulation, and participants. It then delves into the theoretical framework, discussing the valuation of credit default swaps, the no-arbitrage approach, the equivalence relationship between CDS spreads and bond spreads, and the methods of econometrics used for analysis. The paper then explains the data selection criteria for both bond data and risk-free interest rates. The empirical analysis section focuses on the basis spread, examining its average, factors, and testing for its existence. Finally, the paper analyzes the long-term relationship between the spreads on both markets.

Schlüsselwörter

The keywords and focus themes of the text include credit default swaps, bond spreads, basis spread, cointegration, Granger causality, price discovery, and the relationship between CDS and bond markets. The paper examines the empirical relationship between CDS premiums and credit spreads, testing their theoretical equivalence and analyzing the interactions between the two markets.

• Autores: Ralf Koschmieder (Autor), Furong Liang (Autor)
• Año de publicación: 2010
• Páginas: 64
• No. de catálogo: V149685
• ISBN (Ebook): 9783640632121
• ISBN (Libro): 9783640632541
• Idioma: Inglés
• Etiqueta: CSD, credit default swaps, bond, Anleihe, spread, Prämie, empirische Untersuchung, unit root, granger causality, Zeitreihenanalyse, cointegration