CDS Momentum: Slow Moving Credit Ratings and Cross-Market Spillovers

63 Pages Posted: 13 Apr 2014 Last revised: 30 Jun 2021

See all articles by Jongsub Lee

Jongsub Lee

Seoul National University; University of Florida - Warrington College of Business Administration

Andy Naranjo

University of Florida - Warrington College of Business Administration

Stace Sirmans

Auburn University

Date Written: August 17, 2019

Abstract

This paper highlights the adverse consequences of sluggish credit rating updates in creating information efficiency distortions and investment anomalies. We first document significant credit default swap (CDS) return momentum yielding 7.1% per year. We further show that cross-market momentum strategies based on information in past CDS performance generates alpha of 10.2% per year in stocks and 7.6% per year in bonds. These CDS momentum and cross-market effects are stronger among more liquid, informationally-rich CDS contracts whose CDS spreads move in anticipation of important, yet slow moving, credit rating changes.

Keywords: Credit default swaps; CDS returns; Credit ratings; Momentum; Spillover; Endogenous liquidity; Credit risk; Information flows

JEL Classification: G12; G14

Suggested Citation

Lee, Jongsub and Naranjo, Andy and Sirmans, Stace, CDS Momentum: Slow Moving Credit Ratings and Cross-Market Spillovers (August 17, 2019). Available at SSRN: https://ssrn.com/abstract=2423371 or http://dx.doi.org/10.2139/ssrn.2423371

Jongsub Lee (Contact Author)

Seoul National University ( email )

Kwanak-gu
Seoul, 151-742
Korea, Republic of (South Korea)

University of Florida - Warrington College of Business Administration ( email )

Department of Finance Insurance & Real Estate
P.O. Box 117168
Gainesville, FL 32611-7168
United States
352-273-4966 (Phone)
352-392-0301 (Fax)

Andy Naranjo

University of Florida - Warrington College of Business Administration ( email )

P.O. Box 117168
Gainesville, FL 32611-7168
United States
352-392-3781 (Phone)

Stace Sirmans

Auburn University ( email )

Auburn, AL 36849
United States

HOME PAGE: http://www.stacesirmans.com

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