Looking through systemic credit risk: determinants, stress testing and market value

Álvaro Chamizo and Alfonso Novales
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Álvaro Chamizo: BBVA.

No 2019-27, Documentos de Trabajo del ICAE from Universidad Complutense de Madrid, Facultad de Ciencias Económicas y Empresariales, Instituto Complutense de Análisis Económico

Abstract: We provide a methodology to estimate a Global Credit Risk Factor (GCRF) from CDS spreads using the information provided by the default-related component of observed spreads. These are previ- ously estimated using Pan and Singleton (2008) methodology. The estimated factor contains higher explanatory power on CDS spread fluctuations across sectors than standard credit indices like iTraxx or CDX. We find a positive association between GCRF and implied volatility variables, and a negative association with MSCI stock market sector indices as well as with interest rates and with the slope and the curvature of the term structure. Such correlations provide useful insights for risk management as well as for the hedging of credit portfolios. Indeed, we present a synthetic factor regression model for GCRF that we apply in a stress testing methodology for credit portfolios as well as to evaluate future credit risk scenarios. Finally, we show evidence suggesting that the exposure to systemic credit risk was priced in the market during the 2006-2015 period.

Keywords: Credit Risk; Systemic Risk; Idiosyncratic Risk; Stress Tests; Factor Models; Market Pricing. (search for similar items in EconPapers)
JEL-codes: E44 F34 G01 G11 G23 G32 (search for similar items in EconPapers)
Pages: 56 pages
Date: 2019-09
New Economics Papers: this item is included in nep-cfn, nep-fmk, nep-mac and nep-rmg
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Journal Article: Looking through systemic credit risk: Determinants, stress testing and market value (2020)
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