Finance and Economics Discussion Series: Explaining Credit Default Swap Spreads with the Equity Volatility and Jump Risks of Individual Firms - Softcover

Zhang, Benjamin Yibin

Softcover

ISBN 10: 1288711239 ISBN 13: 9781288711239

Publisher: Bibliogov, 2013

Synopsis

A structural model with stochastic volatility and jumps implies specific relationships between observed equity returns and credit spreads. This paper explores such effects in the credit default swap (CDS) market. We use a novel approach to identify the realized jumps of individual equities from high frequency data. Our empirical results suggest that volatility risk alone predicts 50 percent of the variation in CDS spreads, while jump risk alone forecasts 19 percent. After controlling for credit ratings, macroeconomic conditions, and firms' balance sheet information, we can explain 77 percent of the total variation. Moreover, the pricing effects of volatility and jump measures vary consistently across investment-grade and high-yield entities. The estimated nonlinear effects of volatility and jumps are in line with the model-implied relationships between equity returns and credit spreads.

Edition details

• Publisher: Bibliogov
• Publication date: 2013
• Language: English
• ISBN 10: 1288711239
• ISBN 13: 9781288711239
• Binding: Paperback
• Number of pages: 46