Credit default swaps as indicators of bank financial distress

Abstract

We examine whether CDS contracts written on individual banks are effective leading indicators of bank financial distress during a period of systemic bank crisis. Changes in CDS spreads are found to yield a robust signal of failure across a set of European and US banks, in keeping with indirect market discipline. Furthermore, changes in CDS spreads provide information about the condition of banks which supplements that available from equity markets and contained in accounting metrics. Consistent results are detailed for both senior and subordinated CDS spreads. Our results hold out-of-sample, for logit and proportional hazards models, for various cohorts, for idiosyncratic changes in CDS and are robust to the use of alternative measures of bank distress, including rating downgrades and accounting risk.

Reassessing bank monitoring models: an empirical analysis of the value of market signals in the period 2008–2020

“…loans Loans loss reserves/non-performing loans Ötker-Robe and Podpiera [ 33 ] Coverage ratio* Loans loss reserves/impaired loans Betz et al [ 13 ] and Parrado-Martinez et al [ 59 ] Loan loss res.-to-gross loans Loans loss reserves/gross loans Climenta et al [ 56 ], Cole and White [ 9 ] and Distinguin et al [ 17 ] Loan loss res.-to- total loans* Loans loss reserves/total loans Arena [ 12 ], Ötker-Robe and Podpiera [ 33 ] and Sironi [ 15 ] Loan loss res.-to-assets* Loan-loss-reserves/assets Avino et al [ 60 ], Betz et al [ 13 ], Cole and White [ 9 ], Curry et al [ 3 ] and Milne [ 61 ] Loan loss res.-to-interest revenue Loan loss reserves/net interest revenue Climenta et al [ 56 ] and Distinguin et al [ 17 ] ROA Net income/total assets Betz et al [ 13 ], Cleary and Hebb [ 23 ], Cole and White [ 9 ], Curry et al [ 3 ], Distinguin et al [ 17 ], Jing and Fang [ 57 ], Ötker-Robe and Podpiera [ 33 ], Parrado-Martinez et al [ 59 ] and Sironi [ 15 ] ROAA Net income/average assets Chiaramonte and Casu [ 14 ], Climenta et al [ 5...…”

“…From BankFocus were additionally collected the market monthly data. Monthly stock returns (computed using price logs) are expected to have a negative relation with the probability of distress event [ 17 , 39 , 60 ]. Monthly turnover, that is computed as the number of shares traded during a month divided by the total number of shares in that month, is a proxy of the flow of information.…”

Utilizing News Topics for Credit Risk Management: The Explanation of Bank CDS Spreads

“…Yang et al (2019) use a dataset that is categorised by news types to show that there is a negative correlation between news sentiment and CDS spreads, especially for negative, fundamental, and unexpected news. Two papers analyse the correlation between bank CDS spreads and news in somewhat different contexts but both find a negative correlation between news and CDS spreads (Avino et al, 2019;Smales, 2016). However, to the best of our knowledge, there is no existing research on which news topics possess explanatory power regarding bank CDS spreads.…”

“…Amongst others, a recent study indicates that CDS spreads of both European and US banks can be an indicator of financial distress (Avino et al, 2019). In a news context, Smales (2016) shows that there is an asymmetric negative correlation between news and CDS spreads of banks, with negative news having a stronger effect on CDS spreads.…”

Distilling a Disruptive Disintermediary’s Data: Interpretable Machine-Learning Explanations for LendingClub Customers

“…A suite of different modelling approaches are taken to predict loan status and to derive the appropriate interest rate to charge on loans. Table 1 provides a ranking of the set of loan default status models by the area under the curve (AUC), which is a measure of the ability of a classification model (default or not) to distinguish between classes [Avino et al, 2019]. The Logloss and root mean square error (RMSE) are also detailed.…”