Pairing market risk with credit risk

Isabel Figuerola-Ferretti and Ioannis Paraskevopoulos

DEE - Working Papers. Business Economics. WB from Universidad Carlos III de Madrid. Departamento de Economía de la Empresa

Abstract: This paper uses an exclusive proprietary data set of European Credit Derivatives and VIX markets, covering a sample of 5 to 7 years, to study the nature of the link between credit risk and market risk, widely acknowledged in the academic literature. This allows us to establish cointegration in the VIX and iTraxx/CDS markets in a framework where arbitrageurs exploit temporary equilibrium mispricing following pairs strategies. Expected profits, defined in terms of VECM parameters, are positive for all VIX-iTraxx pairs strategies considered. Markets are integrated in that price discovery on both sides of the Atlantic reflect the same underlying information with predominant price leadership of the VIX market over the European CDS market.

Date: 2011-02
New Economics Papers: this item is included in nep-ban, nep-cis and nep-rmg
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Persistent link: https://EconPapers.repec.org/RePEc:cte:wbrepe:wb110201

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