Informational Efficiency of Credit Default Swap and Stock Markets: The Impact of Adverse Credit Events

International Review of Accounting, Banking and Finance, Vol. 1, 2009

22 Pages Posted: 1 Nov 2009

See all articles by Gaiyan Zhang

Gaiyan Zhang

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

Date Written: November 1, 2008

Abstract

We investigate credit default swap (CDS) and stock price reactions to a variety of credit events, including news of economic distress, financial distress, M&A, SEC probe or accounting irregularities, and leverage buyout (LBO). The CDS spread shows a large spike of 37% to 96% depending on the event type on a single day and stays fairly flat the month after, supporting efficiency of the CDS market. Stock price drops by 2% to 9% upon the first four types of credit news but rises by 7% on the LBO news, consistent with wealth transfer effects from bondholders to equity holders. With the exception of LBO news, stock market seems to reveal information about negative credit events before the CDS market. But we find stock price over-reaction for news of SEC probe, and under-reaction for financial distress news. This may arise from trading behaviors of uninformed investors in the stock market.

Keywords: Credit default swap, information efficiency, adverse credit events

JEL Classification: G14, G18, G28

Suggested Citation

Zhang, Gaiyan, Informational Efficiency of Credit Default Swap and Stock Markets: The Impact of Adverse Credit Events (November 1, 2008). International Review of Accounting, Banking and Finance, Vol. 1, 2009 , Available at SSRN: https://ssrn.com/abstract=1497537

Gaiyan Zhang (Contact Author)

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

One University Blvd
St. Louis, MO 63121
United States

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