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Term Structure of Credit Default Swap Spreads and Cross-Section of Stock ReturnsBing HanUniversity of Texas at Austin - McCombs School of Business Yi ZhouFlorida State University, College of Business, Department of Finance March 1, 2011 McCombs Research Paper Series No. FIN-01-11 AFA 2012 Chicago Meetings Paper Abstract: The slope of a firm's term structure of credit default swap (CDS) spreads (five-year spread minus one-year spread) negatively predicts future stock returns. Stocks with low CDS slope on average outperform stocks with high CDS slope by over 1% each month for the next six months. Our result can not be explained by standard risk factors, stock characteristics, default risk measures or changes in CDS spreads. We find that CDS slope positively predicts future changes in CDS spreads, but the information content of CDS slope only slowly gets incorporated into stock price. CDS slope predicts return mainly for stocks facing high arbitrage costs.
Number of Pages in PDF File: 43 Keywords: credit default swap, term structure, cross-section of stock return, default risk premium, slow information diffusion JEL Classification: G12 working papers seriesDate posted: January 7, 2011 ; Last revised: June 18, 2011Suggested CitationContact Information
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