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Are credit default swaps a sideshow? Evidence that Information Flows from Equity to CDS Markets

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Author Info

  • Jens Hilscher

    ()
    (International Business School, Brandeis University)

  • Joshua M. Pollet

    ()
    (Broad College of Business, Michigan State University)

  • Mungo Wilson

    ()
    (Saïd Business School, Oxford University)

Abstract

This paper provides evidence that equity returns lead credit protection returns at daily and weekly frequencies, while credit protection returns do not lead equity returns. Our results indicate that informed traders are primarily active in the equity rather than the CDS market. These ?ndings are consistent with standard theories of market selection by informed traders in which market selection is deter- mined partially by transaction costs. We also ?nd that credit protection returns respond more quickly during salient news events (earnings announcements) com- pared to days with similar equity returns and turnover. This evidence provides support for explanations related to investor inattention.

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File URL: http://www.brandeis.edu/departments/economics/RePEc/brd/doc/Brandeis_WP35.pdf
File Function: First version, 2011
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File URL: http://www.brandeis.edu/departments/economics/RePEc/brd/doc/Brandeis_WP35R.pdf
File Function: Revised version, 2012
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File URL: http://www.brandeis.edu/departments/economics/RePEc/brd/doc/Brandeis_WP35R2.pdf
File Function: Revised version, 2013
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Bibliographic Info

Paper provided by Brandeis University, Department of Economics and International Businesss School in its series Working Papers with number 35.

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Length: 54 pages
Date of creation: Jul 2011
Date of revision: Oct 2012
Handle: RePEc:brd:wpaper:35

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Postal: MS032, P.O. Box 9110, Waltham, MA 02454-9110
Web page: http://www.brandeis.edu/departments/economics/
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Related research

Keywords: CDS; Market Segmentation; Inattention;

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References

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  1. Song Han & Hao Zhou, 2011. "Effects of Liquidity on the Nondefault Component of Corporate Yield Spreads: Evidence from Intraday Transactions Data," Working Papers 022011, Hong Kong Institute for Monetary Research.
  2. Terrence Hendershott & Charles M. Jones & Albert J. Menkveld, 2011. "Does Algorithmic Trading Improve Liquidity?," Journal of Finance, American Finance Association, vol. 66(1), pages 1-33, 02.
  3. Roberto Blanco & Simon Brennan & Ian W Marsh, 2004. "An empirical analysis of the dynamic relationship between investment-grade bonds and credit default swaps," Bank of England working papers 211, Bank of England.
  4. Kwan, Simon H., 1996. "Firm-specific information and the correlation between individual stocks and bonds," Journal of Financial Economics, Elsevier, vol. 40(1), pages 63-80, January.
  5. David Easley & Maureen O'Hara & P.S. Srinivas, 1998. "Option Volume and Stock Prices: Evidence on Where Informed Traders Trade," Journal of Finance, American Finance Association, vol. 53(2), pages 431-465, 04.
  6. Lauren Cohen & Andrea Frazzini, 2008. "Economic Links and Predictable Returns," Journal of Finance, American Finance Association, vol. 63(4), pages 1977-2011, 08.
  7. John Geanakoplos, 2009. "The Leverage Cycle," Cowles Foundation Discussion Papers 1715, Cowles Foundation for Research in Economics, Yale University.
  8. Ericsson, Jan & Jacobs, Kris & Oviedo, Rodolfo, 2009. "The Determinants of Credit Default Swap Premia," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 44(01), pages 109-132, February.
  9. Owen Lamont & Andrea Frazzini, 2007. "The Earnings Announcement Premium and Trading Volume," NBER Working Papers 13090, National Bureau of Economic Research, Inc.
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Cited by:
  1. Blumenstock, Hendrik & von Grone, Udo & Mehlhorn, Marc & Merkl, Johannes & Pietz, Marcus, 2012. "Einflussfaktoren von CDS-Spreads als Maß für das aktuelle Bonitätsrisiko: Liefert das Rating eine Erklärung?," Bayreuth Working Papers on Finance, Accounting and Taxation (FAcT-Papers) 2012-03, University of Bayreuth, Chair of Finance and Banking.

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