Credit default swaps and firm risk

Hai Lin, Binh Hoang Nguyen, Junbo Wang and Cheng Zhang

Journal of Futures Markets, 2023, vol. 43, issue 11, 1668-1692

Abstract: This study investigates how initiating a credit default swap (CDS) affects firm risk. Using the firm value volatility as a measure of firm risk, we document that firm risk decreases following the commencement of CDS trading. Further analysis indicates that the empty creditor channel, which arises when a debt holder with CDS protection has no interest in preserving the company it provides funds, is the primary way of influence. Our findings reveal a significant impact of financial innovation on a firm's behavior. We also document that market frictions affect the degree of such effect.

Date: 2023
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