Fear or Fundamentals? Heterogeneous Beliefs in the European Sovereign CDS Market

46 Pages Posted: 16 Nov 2013 Last revised: 14 Jul 2015

See all articles by Carl Chiarella

Carl Chiarella

University of Technology, Sydney - UTS Business School, Finance Discipline Group

Saskia ter Ellen

Norges Bank

Xuezhong He

University of Technology Sydney (UTS) - Finance Discipline Group, Business School; Financial Research Network (FIRN)

Eliza Wu

The University of Sydney - Business School; Financial Research Network (FIRN)

Date Written: August 1, 2014

Abstract

This paper proposes a model for credit default swap (CDS) spreads under heterogeneous expectations to explain the escalation in sovereign European CDS spreads and the widening variations across European sovereigns following the Global Financial Crisis (GFC). In our model, investors believe that sovereign CDS spreads are determined by country-specific fundamentals and momentum. By estimating the model we find evidence that, whilst some of the recent movements in sovereign CDS spreads can be explained by deteriorating fundamentals for core European Union (EU) countries, momentum has also played a destabilizing role since the GFC in all sovereign credit markets studied.

Keywords: sovereign credit risk, European debt crisis, heterogeneous beliefs, momentum, CDS pricing

JEL Classification: F34, G01, G12, G15

Suggested Citation

Chiarella, Carl and ter Ellen, Saskia and He, Xue-Zhong 'Tony' and Wu, Eliza, Fear or Fundamentals? Heterogeneous Beliefs in the European Sovereign CDS Market (August 1, 2014). Available at SSRN: https://ssrn.com/abstract=2355171 or http://dx.doi.org/10.2139/ssrn.2355171

Carl Chiarella

University of Technology, Sydney - UTS Business School, Finance Discipline Group ( email )

PO Box 123
Broadway, NSW 2007
Australia
+61 2 9514 7719 (Phone)
+61 2 9514 7711 (Fax)

HOME PAGE: http://www.business.uts.edu.au/finance/

Saskia Ter Ellen (Contact Author)

Norges Bank ( email )

P.O. Box 1179
Oslo, N-0107
Norway

Xue-Zhong 'Tony' He

University of Technology Sydney (UTS) - Finance Discipline Group, Business School ( email )

Haymarket
Sydney, NSW 2007
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Eliza Wu

The University of Sydney - Business School ( email )

University of Sydney
Darlington
Sydney, NSW 2006
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Register to save articles to
your library

Register

Paper statistics

Downloads
86
Abstract Views
935
rank
298,633
PlumX Metrics