Cost Rigidity and CDS Spreads

48 Pages Posted: 31 Aug 2018

See all articles by Sanjeev Bhojraj

Sanjeev Bhojraj

Cornell University - Samuel Curtis Johnson Graduate School of Management

Robert J. Bloomfield

Cornell University - Samuel Curtis Johnson Graduate School of Management

Youngki Jang

University of Texas at Dallas - Naveen Jindal School of Management

Nir Yehuda

University of Texas at Dallas - Department of Accounting & Information Management

Date Written: August 13, 2017

Abstract

We provide evidence that credit investors do not fully impound the implications of firms’ cost structure when pricing credit default swaps. Information about firms’ cost structure is not disclosed and needs to be estimated. Furthermore, the performance implications of firms’ cost structure depend on the expected macroeconomic conditions. We focus on the debt market because of the strong emphasis of this market on downside risk. To measure expected aggregate macroeconomic conditions, we employ the expected change in the anxious index (hereinafter AI), the probability of a decline in real GDP, provided by the SPF — the survey of professional forecasters. We interact this index with the firm’s cost structure, and find that this interaction predicts future one-quarter-ahead CDS spreads. Portfolio-level analysis shows that a high-cost-rigidity portfolio is more sensitive to change in expected macroeconomic conditions and further confirms our predictability result.

Keywords: Cost Structure, Credit Spreads, Macroeconomic Forecast

JEL Classification: G12, G14, G32

Suggested Citation

Bhojraj, Sanjeev and Bloomfield, Robert J. and Jang, Youngki and Yehuda, Nir, Cost Rigidity and CDS Spreads (August 13, 2017). Available at SSRN: https://ssrn.com/abstract=3238976 or http://dx.doi.org/10.2139/ssrn.3238976

Sanjeev Bhojraj

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

Department of Accounting
Ithaca, NY 14853
United States
607-255-4069 (Phone)
607-254-4590 (Fax)

Robert J. Bloomfield

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

450 Sage Hall
Ithaca, NY 14853
United States
607-255-9407 (Phone)
607-254-4590 (Fax)

Youngki Jang

University of Texas at Dallas - Naveen Jindal School of Management ( email )

P.O. Box 830688
Richardson, TX 75083-0688
United States

Nir Yehuda (Contact Author)

University of Texas at Dallas - Department of Accounting & Information Management ( email )

2601 North Floyd Road
Richardson, TX 75083-0688
United States

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