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Neglected Risk: Evidence from Structured Product Counterparty Exposure

Marc Arnold (), Dustin Schuette and Alexander Wagner

No 1406, Working Papers on Finance from University of St. Gallen, School of Finance

Abstract: We show that initial offering prices of simple structured products do not reflect issuer credit risk before the Lehman default. After this event, credit risk is no longer neglected. Issuers then compensate general and even product-specific counterparty exposure. We find that investor attention toward issuer credit risk is a critical determinant of the occurrence of neglected risk. Additionally, banks have a propensity to construct products with larger counterparty exposure. Overall, our results shed light on whether and under which conditions financial engineering generates neglected risk in the economy.

Keywords: Neglected risk; structured products; counterparty risk; investor attention (search for similar items in EconPapers)
JEL-codes: D8 G34 M52 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-rmg
Date: 2014-03, Revised 2016-04
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