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Estimating the probability of multiple EU sovereign defaults using CDS and bond data

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  • R. Pianeti
  • R. Giacometti

Abstract

The ongoing EU sovereign debt crisis is causing great concern about the sustainability of national debt issued by the member states. In this paper, we propose a methodology to estimate the likelihood of the default of one or more countries in the Euro Area by extending the approach in Pianeti et al. [ J. Fixed Income , 2012, 21 , 44-58] to the case of multiple defaults. We provide an assessment of the marginal, the joint and the conditional default probabilities within the Euro Zone. The adopted measure of systemic risk is the probability of a joint default of the EU countries over a 5 year time horizon. We find evidence of increasing systemic risk and danger of contagion from early 2007 and more significantly from late 2011 onwards. We show that our measure has predictive ability with respect to the equity market.

Suggested Citation

  • R. Pianeti & R. Giacometti, 2015. "Estimating the probability of multiple EU sovereign defaults using CDS and bond data," Quantitative Finance, Taylor & Francis Journals, vol. 15(1), pages 61-78, January.
  • Handle: RePEc:taf:quantf:v:15:y:2015:i:1:p:61-78
    DOI: 10.1080/14697688.2014.932919
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    File URL: http://hdl.handle.net/10.1080/14697688.2014.932919
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    References listed on IDEAS

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    1. Stefano Giglio, 2011. "Credit default swap spreads and systemic financial risk," Proceedings 1122, Federal Reserve Bank of Chicago.
    2. Bernd Schwaab, 2012. "Conditional probabilities and contagion measures for euro area sovereign default risk," Research Bulletin, European Central Bank, vol. 17, pages 6-11.
    3. Schwaab, Bernd & Koopman, Siem Jan & Lucas, André, 2011. "Systemic risk diagnostics: coincident indicators and early warning signals," Working Paper Series 1327, European Central Bank.
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    1. repec:wsi:ijfexx:v:05:y:2018:i:02:n:s242478631850010x is not listed on IDEAS
    2. Cho-Hoi Hui & Chi-Fai Lo & Xiao-Fen Zheng & Tom Fong, 2015. "Measuring Contagion-Induced Funding Liquidity Risk in Sovereign Debt Markets," Working Papers 182015, Hong Kong Institute for Monetary Research.

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