The Fundamental Determinants of Credit Default Risk for European Large Complex Financial Institutions
AbstractThis paper attempts to identify the fundamental variables that drive the credit default swaps during the initial phase of distress in selected European Large Complex Financial Institutions (LCFIs). It uses yearly data over 2004 - 08 for 29 European LCFIs. The results from a dynamic panel data estimator show that LCFIsâ€™ business models, earnings potential, and economic uncertainty (represented by market expectations about the future risks of a particular LCFI and market views on prospects for economic growth) are among the most significant determinants of credit risk. The findings of the paper are broadly consistent with those of the literature on bank failure, where the determinants of the latter include the entire CAMELS structure - that is, Capital Adequacy, Asset Quality, Management Quality, Earnings Potential, Liquidity, and Sensitivity to Market Risk. By establishing a link between the financial and market fundamentals of LCFIs and their CDS spreads, the paper offers a potential tool for fundamentals-based vulnerability and early warning system for LCFIs.
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Bibliographic InfoPaper provided by International Monetary Fund in its series IMF Working Papers with number 10/153.
Date of creation: 01 Jun 2010
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This paper has been announced in the following NEP Reports:
- NEP-ACC-2010-07-31 (Accounting & Auditing)
- NEP-ALL-2010-07-31 (All new papers)
- NEP-BAN-2010-07-31 (Banking)
- NEP-BEC-2010-07-31 (Business Economics)
- NEP-EEC-2010-07-31 (European Economics)
- NEP-RMG-2010-07-31 (Risk Management)
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