Credit Derivatives and Corporate Default Prediction

41 Pages Posted: 12 May 2020

See all articles by Xiaoxia Ye

Xiaoxia Ye

University of Liverpool Management School

Fan Yu

Claremont McKenna College - Robert Day School of Economics and Finance

Ran Zhao

Claremont Graduate University, Drucker School of Management

Date Written: April 16, 2020

Abstract

There have been 91 defaults among U.S. CDS reference entities between 2002 and 2018. Within this sample, the five-year CDS spread significantly enhances the explanatory power of benchmark corporate default prediction models with equity market covariates and firm attributes, both in- and out-of-sample. This finding holds among financial and non-financial firms, and both within and without the great financial crisis. Moreover, the predictive power of the CDS spread is concentrated among entities with higher CDS market liquidity, while the illiquidity component of the CDS spread itself does not explain default. Lastly, neither the corporate bond yield spread nor CDS market indices explain default in the presence of firm-level CDS spreads. These results confirm the relevance of information contained in credit risk pricing to default prediction.

Keywords: Credit default swap, corporate default prediction, default risk, CDS liquidity

JEL Classification: G12, G13, G17, G23, G33

Suggested Citation

Ye, Xiaoxia and Yu, Fan and Zhao, Ran, Credit Derivatives and Corporate Default Prediction (April 16, 2020). Available at SSRN: https://ssrn.com/abstract=3578188 or http://dx.doi.org/10.2139/ssrn.3578188

Xiaoxia Ye

University of Liverpool Management School ( email )

Chatham Street
Liverpool, L69 7ZH
United Kingdom

Fan Yu (Contact Author)

Claremont McKenna College - Robert Day School of Economics and Finance ( email )

500 E. Ninth St.
Claremont, CA 91711-6420
United States
(909)607-3345 (Phone)

HOME PAGE: http://www.cmc.edu/academic/faculty/profile.asp?Fac=553

Ran Zhao

Claremont Graduate University, Drucker School of Management ( email )

150 E. Tenth Street
Claremont, CA 91711
United States

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