Counterparty Credit Risk and the Effectiveness of Banking Regulation

26 Pages Posted: 5 Nov 2018

See all articles by Sînziana Kroon

Sînziana Kroon

De Nederlandsche Bank

Iman van Lelyveld

De Nederlandsche Bank; Vrije Universiteit Amsterdam

Multiple version iconThere are 2 versions of this paper

Date Written: November 5, 2018

Abstract

We investigate how counterparty credit risk influences the prices of over-the-counter CDS contracts using confidential transaction level data for practically all Dutch trades. We confirm our prior of a significant negative relationship between the credit worthiness of the CDS seller and the price of the CDS contract. We find that an increase of 100 basis points in the credit spread of the seller, decreases the price of the CDS contract by 7.2 basis points. Also, the larger the size of the CDS contract the lower the price of the CDS contract. Finally, we find that regulatory exemptions have a statistically significant but economically negligible impact on CDS pricing: Transactions exempted from banking capital requirements for Credit Valuation Adjustment risk – mostly banks transacting with non-financial institutions, sovereigns and pension funds – trade 0.14 basis points lower, all else equal.

Keywords: OTC market, counterparty credit risk, credit default swap

JEL Classification: G10, G12, G14, G20, G23

Suggested Citation

Kroon Petrescu, Sînziana and van Lelyveld, Iman, Counterparty Credit Risk and the Effectiveness of Banking Regulation (November 5, 2018). Available at SSRN: https://ssrn.com/abstract=3278728 or http://dx.doi.org/10.2139/ssrn.3278728

Sînziana Kroon Petrescu (Contact Author)

De Nederlandsche Bank ( email )

PO Box 98
1000 AB Amsterdam
Amsterdam, 1000 AB
Netherlands

Iman van Lelyveld

De Nederlandsche Bank ( email )

PO Box 98
1000 AB Amsterdam
Amsterdam, 1000 AB
Netherlands

Vrije Universiteit Amsterdam ( email )

Netherlands

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