Valuation of systematic risk in the cross-section of credit default swap spreads

Publication Type:
Journal Article
Citation:
Quarterly Review of Economics and Finance, 2017, 64 pp. 183 - 195
Issue Date:
2017-05-01
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© 2016 Board of Trustees of the University of Illinois We analyze the pricing of systematic risk factors in credit default swap (CDS) contracts in a two-stage empirical framework. Firstly we estimate contract-specific sensitivities (betas) to several systematic risk factors by time-series regressions using quoted CDS spreads of 339 U.S. entities from January 2004 to December 2010. Secondly, we show that these contract-specific sensitivities are cross-sectionally priced in CDS spreads after controlling for individual risk factors. We find that the credit market climate, the Cross-market Correlation, and the market volatility explain CDS spread changes and that their corresponding sensitivities (betas) are particularly priced in the cross-section. Our basic risk factors explain about 83% (90%) of the CDS spreads prior to (during) the crisis.
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