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Can Credit Default Swaps Predict Financial Crises: An Empirical Test on Emerging Markets

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  • Neziri, Hekuran

Abstract

We explore the informational value of credit default swaps and the extent to which they may be linked to financial crises. After developing a theoretical framework to model the relationship between credit default swap market and equity and currency markets, we apply an empirical study which uses logistic regressions and a panel data sample of emerging markets to assess the ability of these financial instruments to predict crises. Regarding them as reflections of future expectations of investors on the outcomes of currency and equity markets, we find credit default swaps to be a significant indicator explaining the periods proceeding financial crises, at least in equity markets. The inclusion of credit default swaps as a factor in models that predict crises and their ability to improve predictions in equity market is a major contribution of this study to the existing literature.

Suggested Citation

  • Neziri, Hekuran, 2008. "Can Credit Default Swaps Predict Financial Crises: An Empirical Test on Emerging Markets," MPRA Paper 13096, University Library of Munich, Germany.
  • Handle: RePEc:pra:mprapa:13096
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    File URL: https://mpra.ub.uni-muenchen.de/13096/1/MPRA_paper_13096.pdf
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    References listed on IDEAS

    as
    1. Graciela Kaminsky & Saul Lizondo & Carmen M. Reinhart, 1998. "Leading Indicators of Currency Crises," IMF Staff Papers, Palgrave Macmillan, vol. 45(1), pages 1-48, March.
    2. Kumar, Mohan & Moorthy, Uma & Perraudin, William, 2003. "Predicting emerging market currency crashes," Journal of Empirical Finance, Elsevier, vol. 10(4), pages 427-454, September.
    3. Eugene White & Frederic Mishkin, 2002. "U.S.Stock Market Crashes and Their Aftermath: Implications for Monetary Policy," Departmental Working Papers 200208, Rutgers University, Department of Economics.
    4. Carmen M. Reinhart & Graciela L. Kaminsky, 1999. "The Twin Crises: The Causes of Banking and Balance-of-Payments Problems," American Economic Review, American Economic Association, vol. 89(3), pages 473-500, June.
    5. Peltonen, Tuomas, 2006. "Are emerging market currency crises predictable? A test," Working Paper Series 571, European Central Bank.
    6. Frank Packer & Chamaree Suthiphongchai, 2003. "Sovereign credit default swaps," BIS Quarterly Review, Bank for International Settlements, December.
    7. Cochrane, John H., 2005. "Money as stock," Journal of Monetary Economics, Elsevier, vol. 52(3), pages 501-528, April.
    8. Im, K.S. & Pesaran, M.H., 2003. "On The Panel Unit Root Tests Using Nonlinear Instrumental Variables," Cambridge Working Papers in Economics 0347, Faculty of Economics, University of Cambridge.
    9. Jorge A Chan-Lau & Yoon Sook Kim, 2004. "Equity Prices, Credit Default Swaps, and Bond Spreads in Emerging Markets," IMF Working Papers 04/27, International Monetary Fund.
    10. Coudert, V. & Gex, M., 2006. "Can risk aversion indicators anticipate financial crises?," Financial Stability Review, Banque de France, issue 9, pages 67-87, December.
    Full references (including those not matched with items on IDEAS)

    More about this item

    Keywords

    Credit Default Swaps; Stock Market Crises; Currency Crises; Emerging Market Debt;

    JEL classification:

    • F3 - International Economics - - International Finance

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