EconPapers    
Economics at your fingertips  
 

Default Clustering Risk Premium and its Cross-Market Asset Pricing Implications

Kiwoong Byun (), Baeho Kim () and Dong Hwan Oh
Additional contact information
Dong Hwan Oh: https://www.federalreserve.gov/econres/dong-hwan-oh.htm

No 2023-055, Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.)

Abstract: This study examines the market-implied premiums for bearing default clustering risk by analyzing credit derivatives contracts on the CDX North American Investment Grade (CDX.NA.IG) portfolio between September 2005 and March 2021. Our approach involves constructing a time series of reference tranche rates exclusively derived by single-name CDS spreads. The default clustering risk premium (DCRP) is captured by comparing the original and reference tranche spreads, with the former exceeding the latter when investors require greater compensation for correlated defaults at the portfolio level. The fitted DCRP level significantly increased in response to the 2007-9 global financial crisis and remained relatively stable for a period, followed by a gradual decline beginning in 2016. Notably, the COVID-19 shock caused another sharp rise in the DCRP level. Our empirical analysis finds that the estimated DCRP has significant implications for asset pricing, particularly in affecting the investment opportunities available to U.S. stock investors during times of instability in the financial system.

Keywords: Credit Default Swap (CDS); CDS Index (CDX); Reference Tranche Rate; Default Clustering Risk Premium (search for similar items in EconPapers)
JEL-codes: C40 C60 G10 (search for similar items in EconPapers)
Pages: 32 p.
Date: 2023-08-18
New Economics Papers: this item is included in nep-fmk, nep-ifn and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
https://www.federalreserve.gov/econres/feds/files/2023055pap.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:fip:fedgfe:2023-55

DOI: 10.17016/FEDS.2023.055

Access Statistics for this paper

More papers in Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.) Contact information at EDIRC.
Bibliographic data for series maintained by Ryan Wolfslayer ; Keisha Fournillier ().

 
Page updated 2024-04-14
Handle: RePEc:fip:fedgfe:2023-55