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Do banks still monitor when there is a market for credit protection?

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  • Shan, Chenyu
  • Tang, Dragon Yongjun
  • Winton, Andrew

Abstract

The rise of credit default swaps (CDS) provides creditors with a market-based approach to obtaining protection, but it can also affect lenders' monitoring of the borrowers. We find that after CDS begin trading on a given firm, new loans to that firm are less likely to require collateral and have less strict financial covenants, even controlling for endogeneity. The effects are stronger when lenders have easier access to CDS, for safer firms, credit lines, and performance-based covenants. Our evidence is consistent with the theory that the introduction of CDS trading makes loan contracting more effective for better quality borrowers.

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  • Shan, Chenyu & Tang, Dragon Yongjun & Winton, Andrew, 2019. "Do banks still monitor when there is a market for credit protection?," Journal of Accounting and Economics, Elsevier, vol. 68(2).
    • Handle: RePEc:eee:jaecon:v:68:y:2019:i:2:s0165410119300369
    DOI: 10.1016/j.jacceco.2019.101241
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    4. Dai, Jing & Hu, Nan & Huang, Rong & Yan, Yan, 2023. "How does credit risk affect cost management strategies? Evidence on the initiation of credit default swap and sticky cost behavior," Journal of Corporate Finance, Elsevier, vol. 80(C).
    5. Li, Jay Y. & Tang, Dragon Yongjun, 2022. "Product market competition with CDS," Journal of Corporate Finance, Elsevier, vol. 73(C).
    6. Liangfei Qiu & Ruiqi Liu & Yong Jin & Chao Ding & Yangyang Fan & Andy C. L. Yeung, 2022. "Impact of credit default swaps on firms’ operational efficiency," Production and Operations Management, Production and Operations Management Society, vol. 31(9), pages 3611-3631, September.
    7. Wu, Wei-Shao & Fok, Robert C.W. & Chang, Yuanchen & Chen, Chao-Jung, 2022. "Credit default swaps and corporate performance smoothing," Journal of Corporate Finance, Elsevier, vol. 75(C).
    8. Clark, Brian & Donato, James & Francis, Bill B & Shohfi, Thomas D, 2023. "Bank loan renegotiation and credit default swaps," Journal of Banking & Finance, Elsevier, vol. 151(C).
    9. Vishaal Baulkaran & Pawan Jain, 2023. "CDS contract initiations: REIT board monitoring and corporate decision outcomes," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 46(1), pages 217-246, February.
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    12. De Franco, Gus & Shohfi, Thomas & Xu, Da & Zhu, Zhiwei (Vivi), 2023. "Fixed income conference calls," Journal of Accounting and Economics, Elsevier, vol. 75(1).

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    More about this item

    Keywords

    Credit default swaps; CDS; Collateral; Covenants; Credit protection; Monitoring;
    All these keywords.

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • L14 - Industrial Organization - - Market Structure, Firm Strategy, and Market Performance - - - Transactional Relationships; Contracts and Reputation
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance

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