Understanding the Term Structure of Credit Default Swap Spreads

44 Pages Posted: 18 Sep 2012 Last revised: 22 Jan 2013

See all articles by Bing Han

Bing Han

University of Toronto, Rotman School of Management

Yi Zhou

San Francisco State University

Date Written: January 17, 2011

Abstract

The shape of the term structure of credit default swap (CDS) spreads displays large variations over time and across firms. Consistent with the predictions of structural models of credit risk, we find that the slope of CDS spread term structure increases with firm leverage and volatility, but decreases with the level and the slope of the Treasury yield curve. However, these variables together have rather limited explanatory power for CDS slope and there is a significant common component in the regression residuals. In addition, we find that CDS slope predicts future changes in CDS spreads, even after controlling for the contemporaneous variables that determine changes in CDS spreads according to the structural models. Our results suggest that while structural models are qualitatively useful for understanding the shape of credit term structure, there are missing factors that importantly affect the term structure of CDS spreads.

Keywords: term structure, credit default swap, credit risk, structural models

JEL Classification: G12

Suggested Citation

Han, Bing and Zhou, Yi, Understanding the Term Structure of Credit Default Swap Spreads (January 17, 2011). Midwest Finance Association 2013 Annual Meeting Paper, Available at SSRN: https://ssrn.com/abstract=2148076 or http://dx.doi.org/10.2139/ssrn.2148076

Bing Han (Contact Author)

University of Toronto, Rotman School of Management ( email )

Toronto, Ontario M5S 3E6
Canada
4169460732 (Phone)

Yi Zhou

San Francisco State University ( email )

College of Business
1600 Holloway Avenue
San Francisco, CA 94132
United States
(415) 338-2661 (Phone)
(415) 338-0596 (Fax)

HOME PAGE: http://cob.sfsu.edu/directory/yi-zhou

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