Contagion and Risk in the Amplification of Crisis : Evidence from Asian Names in the CDS Market
AbstractIn the turmoil of 20072009, troubles in a relatively small corner of the US mortgage market escalated into a crisis of global proportions. An amplification mechanism were the huge valuation losses on credit instruments, which dwarfed actual losses from default. We argue that these valuation losses were driven not so much by a reassessment of risks as by a global repricing of these risks. For empirical evidence, we analyze fluctuations in credit default swap (CDS) spreads and expected default frequencies (EDFs) for major Asian borrowers. Because EDFs are estimated to exploit the forward-looking nature of stock prices, their use allows us to account for knock-on effects from the slowing economy on default risk. We find that valuation losses on CDS contracts for these borrowers arose in large part from movements in global and regional risk pricing factors rather than from revisions in individual expected losses from default alone.
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Bibliographic InfoPaper provided by East Asian Bureau of Economic Research in its series EABER Working Papers with number 22861.
Date of creation: Jan 2009
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sub-prime; mortgage crisis; turmoil; meltdown; amplification; valuation; credit default swap; expected default frequency; risk premia; credit bubble;
Find related papers by JEL classification:
- G01 - Financial Economics - - General - - - Financial Crises
- G18 - Financial Economics - - General Financial Markets - - - Government Policy and Regulation
- G15 - Financial Economics - - General Financial Markets - - - International Financial Markets
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