Credit Risk Analysis on Euro Government Bonds-Term Structures of Default Probabilities

Abstract

In this paper, we make a comprehensive credit risk analysis on government bonds (GBs) of Germany, France, Italy, Spain and Greece over the period 2007.4-2012.3, where interest rate (IR) differential, GB price differential, default probability (DP) and credit default swap (CDS) are considered. First, applying the GBpricing model in Kariya (Quantitative methods for portfolio analysis: MTV approach. Springer, Berlin, 1993) to these GB prices, we derive the term structures of interest rates (TSIRs) and discuss on the Maastricht convergence condition for the IR-differentials among these states relative to the German TSIRs and make some observations on some divergent tendencies. The results are associated with the business cycles and budgetary condition of each state. In the second part, to substantiate this viewpoint, we first make credit risk price spread analysis on price differentials and derive the term structures of default probabilities (TSDPs) of the French, Italian, Spanish and Greek GBs relative to the German GBs, where the corporate bond (CB) model proposed in Kariya

Empirical Credit Risk Ratings of Individual Corporate Bonds and Derivation of Term Structures of Default Probabilities

“…As will be seen, it is a relative Crisk-rating system assuming no credit risk for GBs in each state. As in the treatment of the EU in Kariya et al (2015), if some states have a common currency, the Crisk of GBs in those states can be rated together with CBs issued in states where a Crisk-least base state such as Germany is chosen as a pivotal reference.…”