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Are the U.S. Stock Market and Credit Default Swap Market Related? Evidence from the CDX Indices

Journal of Alternative Investments, Summer 2008

47 Pages Posted: 7 Jul 2008 Last revised: 2 Nov 2009

Hung-Gay Fung

University of Missouri at Saint Louis - College of Business Administration

Gregory E Sierra

Southern Illinois University Edwardsville

Jot Yau

Seattle University

Gaiyan Zhang

University of Missouri at St. Louis - College of Business Administration

Date Written: July 7, 2008

Abstract

This study examines the market-wide relations between the U.S. stock market and the credit default swap (CDS) market for the period of 2001-2007. Results indicate that the lead-lag relationship between the U.S. stock market and the CDS market depends on the credit quality of the underlying reference entity. Specifically, this study finds significant mutual feedback of information between the stock market and the high-yield CDS market in terms of pricing and volatility, while the stock market leads the investment-grade CDS index in the pricing process. The CDS market seems to play a more significant role in volatility spillover than the stock market. That is, volatilities of both the investment-grade and high-yield CDS indices seem to lead the stock market volatility, while the latter has a feedback effect to that of the high-yield CDS market only. Overall, the implication is that market participants should seek information in both markets when they are about to engage in trading and/or hedging.

Keywords: credit default swap (CDS) index, information efficiency, price discovery

JEL Classification: G14, C32

Suggested Citation

Fung, Hung-Gay and Sierra, Gregory E and Yau, Jot and Zhang, Gaiyan, Are the U.S. Stock Market and Credit Default Swap Market Related? Evidence from the CDX Indices (July 7, 2008). Journal of Alternative Investments, Summer 2008. Available at SSRN: https://ssrn.com/abstract=1156600

Hung-Gay Fung

University of Missouri at Saint Louis - College of Business Administration ( email )

One University Blvd.
487 SSB
St. Louis, MO 63121
United States
314-516-6374 (Phone)

Gregory E. Sierra

Southern Illinois University Edwardsville ( email )

Campus Box 1104
Edwardsville, IL 62026-1102
United States
618-650-2633 (Phone)

Jot Yau (Contact Author)

Seattle University ( email )

901 12th Avenue
Seattle, WA 98122
United States

Gaiyan Zhang

University of Missouri at St. Louis - College of Business Administration ( email )

One University Blvd
St. Louis, MO 63121
United States

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