Default and Liquidity Regimes in the Bond Market During the 2002-2012 Period

Canadian Journal of Economics, Forthcoming

39 Pages Posted: 21 Aug 2013 Last revised: 17 Sep 2013

See all articles by Georges Dionne

Georges Dionne

HEC Montreal - Department of Finance

Olfa Maalaoui Chun

Korea Advanced Institute of Science and Technology (KAIST) - Graduate School of Finance

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Date Written: September 16, 2013

Abstract

Using a real-time random regime shift technique, we identify and discuss two different regimes in the dynamics of credit spreads during 2002-2012: a liquidity regime and a default regime. Both regimes contribute to the patterns observed in credit spreads. The liquidity regime seems to explain the predictive power of credit risk on the 2007-2009 NBER recession, whereas the default regime drives the persistence of credit spreads over the same recession. Our results complement the recent dynamic structural models as well as monetary and credit supply effects models by empirically supporting two important patterns in credit spreads: the persistence and the predictive ability toward economic downturns.

Keywords: Credit spread, credit default swaps, real-time regime detection, market risk, liquidity cycle, default cycle, credit cycle, NBER economic cycle

JEL Classification: C32, C52, C61, G12, G13

Suggested Citation

Dionne, Georges and Maalaoui Chun, Olfa, Default and Liquidity Regimes in the Bond Market During the 2002-2012 Period (September 16, 2013). Canadian Journal of Economics, Forthcoming, Available at SSRN: https://ssrn.com/abstract=2313344

Georges Dionne (Contact Author)

HEC Montreal - Department of Finance ( email )

3000 Chemin de la Cote-Sainte-Catherine
Montreal, Quebec H3T 2A7
Canada
514-340-6596 (Phone)
514-340-5019 (Fax)

HOME PAGE: http://www.hec.ca/gestiondesrisques/

Olfa Maalaoui Chun

Korea Advanced Institute of Science and Technology (KAIST) - Graduate School of Finance ( email )

207-43 Cheongryangri-2dong 130-722
Seoul
Korea

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