We explore the impact of media content on sovereign credit risk. Our measure of media tone is extracted from the Thomson Reuters News Analytics database. As a proxy for sovereign credit risk we consider credit default swap (CDS) spreads, which are decomposed into their risk premium and default risk components. We find that media tone explains and predicts CDS returns and is a mixture of noise and information. Its effect on risk premium induces a temporary change in investors’ appetite for credit risk exposure, whereas its impact on the default component leads to reassessments of the fundamentals of sovereign economies.
We provide evidence of excess comovement in the credit default swap (CDS) market following inclusions to and exclusions from investment grade and high yield CDX indices during the 2003-2016 period. We find that when a name joins an index, its return tends to covary more with the returns of that index and conversely when it is excluded from an index, its return tends to covary less with it. We use univariate regressions and a difference-indifference approach to show that the CDS market is impacted by indexation. This excess comovement indicates a departure from fundamental-based pricing and provides support in favour of style investing.
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