US corporate default swap valuation: the market liquidity hypothesis and autonomous credit risk

Dunbar, Kwamie

doi:10.1080/14697680701397927

Cited by 15 publications

(8 citation statements)

References 28 publications

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“…In the CDS market, the liquidity dynamics imply widening bid-ask spreads as credit risk increases, with the ask quote reacting more sensitively than the bid. This analysis complements the cross-sectional evidence by Dunbar (2008), who calibrates a reduced-form model with credit and liquidity risk factors to CDS premia only, and of Chen, Fabozzi, and Sverdlove (2007), who calibrate a similar reduced-form model to CDS ask quotes or mid quotes only and deduce liquidity premia in bond prices. A delicate result of the latter study are the on average negative bond liquidity premia for all investment grade rating classes when using CDS ask premia.…”

Section: Introductionmentioning

confidence: 68%

Time-Varying Credit Risk and Liquidity Premia in Bond and CDS Markets

Bühler

Gehde-Trapp

2008

SSRN Journal

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We develop a reduced-form model that allows us to decompose bond spreads and CDS premia into a pure credit risk component, a pure liquidity component, and a component measuring the relation between credit risk and liquidity. CDS liquidity has important consequences for the bond credit risk and liquidity components. Besides the credit risk link, we document a liquidity link between the bond and the CDS market. Liquidity in both markets dries up as credit risk increases, and higher bond market liquidity leads to lower CDS market liquidity. Ignoring CDS liquidity results in partly negative liquidity premia, particularly when CDS liquidity is low.

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Section: Introductionmentioning

confidence: 68%

Time-Varying Credit Risk and Liquidity Premia in Bond and CDS Markets

Bühler

Gehde-Trapp

2008

SSRN Journal

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“…Here we assume a deterministic discount factor. Chen et al (2008Chen et al ( , 2013) considered a stochastic interest rate; Dunbar (2008) proposed a framework with stochastic factors to model interest rate and liquidity.…”

Section: Evaluating Cds Sreadsmentioning

confidence: 99%

Investigating the Performance of Non-Gaussian Stochastic Intensity Models in the Calibration of Credit Default Swap Spreads

Bianchi

Fabozzi

2014

Comput Econ

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Most important financial models assume randomness is explained through a normal random variable because, in general, use of alternative models is obstructed by the difficulty of calibrating and simulating them. Here we empirically study credit default swap pricing models under a reduced-form framework assuming different dynamics for the default intensity process. We explore pricing performance and parameter stability during the highly volatile period from June 30, 2008 to December 31, 2010 for different classes of processes driven by Brownian motion, three non-Gaussian Lévy processes, and a Sato process. The models are analyzed from both a static and dynamic perspective.

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“…We believe that Ashcraft and Santos' reliance on time series analysis to evaluate this phenomenon yielded statically significant but shallow results, so we will use an autoregressive conditional hazard VAR procedure that should provide insights that are deep, subjective and dynamic. The academic literature suggests that the credit risk transfer mechanism is itself sensitive to changes in the short‐term rate (Dunbar 2008; Houweling & Vorst, 2005; Jarrow & Turnbull, 1995) and as such any action by the Federal Reserve Bank on its lending rate should influence the debt financing and short‐term cash‐flow financing needs of firms.…”

Section: Introductionmentioning

confidence: 99%

Credit risk dynamics in response to changes in the federal funds target: The implication for firm short‐term debt

Dunbar

Amin

2012

Rev Financ Econ

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a b s t r a c t JEL classification: E32 E52 G10 Keywords: Credit crisis Federal funds rate Autoregressive conditional hazard Short term debt financing Firm valueThe recent credit crisis has raised a number of interesting questions regarding the role of the Federal Reserve Bank and the effectiveness of its expected and unexpected interventions in financial markets, especially during the crisis, given its mandate. This paper reviews and evaluates the impact of expected and unexpected changes in the federal funds rate target on credit risk premia. The paper's main innovation is the use of an ACH-VAR (autoregressive conditional hazard VAR) model to generate the Fed's expected and unexpected monetary policy shocks which are then used to determine the effects of a Federal Reserve policy change on counterparty credit risk and more importantly short-term firm debt financing. The findings answer a longstanding question sought by researchers on the effect of policy makers' announcements on firm debt financing. The results clearly show that the Federal Reserve influences short-term debt financing through the credit channel for both expansionary and contractionary monetary policies. In particular, we find that the growth in counterparty risk appears less responsive to anticipated responses in the Fed funds rate that fail to materialize than to an unanticipated increase in the federal funds rate. Finally, we also document that the results appear to validate the Feds interventions in financial markets to stem counterparty risk and to make liquidity more readily available to firms.

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US corporate default swap valuation: the market liquidity hypothesis and autonomous credit risk

Cited by 15 publications

References 28 publications

Time-Varying Credit Risk and Liquidity Premia in Bond and CDS Markets

Time-Varying Credit Risk and Liquidity Premia in Bond and CDS Markets

Investigating the Performance of Non-Gaussian Stochastic Intensity Models in the Calibration of Credit Default Swap Spreads

Credit risk dynamics in response to changes in the federal funds target: The implication for firm short‐term debt

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