XXV Edition

1-2 December 2016"

On the Efficiency of Emu Sovereign Debt Pricing

Buschmann Christian, Frankfurt School of Finance & Management
Heidorn Thomas , Frankfurt School of Finance & Management

In this paper, we investigate the patterns and determinants of sovereign credit risk. Since we believe that the validity of the commonly-used benchmark for sovereign credit risk in bond spreads is biased for several reasons, we use an alternative approach: sovereign asset swap spreads. To analyse the determinants of this market-based credit risk measure, we use a large proprietary data set of market data to derive the patterns and determinants of asset swap spreads of 11 EMU-countries between 2007 and 2015 and dividing the sample into two sub-groups: CORE countries and GIIPS-countries. Our results show that sovereign credit ratings and market-based measures can explain the formation of sovereign asset swap spreads and closely related sovereign CDS spreads. We also find that the partition of between CORE-countries and GIIPS-countries can be proofed empirically. Our findings have a positive correlation with the degree of turmoil in the individual market and a negative one with the size of the bond market. Albeit they should be equal in theory, we also find a partial divergence between both types of spreads. Our results are robust against a substitution of maturities and a variation in the observation period.

Area: Risk management

Keywords: asset swap spreads, credit spreads, sovereign debt crisis

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