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Extreme Risks During the U. S. Financial Crisis: An Empirical Study of the Credit Default Swap Market

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Author

Summary, in English

In this paper we focus on the many extreme credit default swap spread movements observed during the recent credit crisis. We find that the tails of the spread (and price) change distribution differ significantly from those of the normal distribution even for diversified credit derivatives portfolios. Particular focus is put on the sudden shift in the behavior of the credit default swap market in the summer of 2007. During the first month of the crisis, July 2007, we find the extreme turbulence in the credit derivatives market to be comparable only to the turmoil in the equity market in October 1987 and in October 2008. As a result of this extreme behavior and the dramatic regime shift observed at the start of the crisis, we find credit derivatives portfolio Value at Risk estimates based on extreme value theory to be more accurate than those based on the normal-, the Student’s t- or the historical distribution. We find similar results during the crisis and in the comparably tranquil years leading up to the crisis. The results are qualitatively the same for investment-grade and high-yield credits.

Publishing year

2013

Language

English

Pages

34-47

Publication/Series

Global Business and Finance Review

Volume

18

Issue

1

Document type

Journal article

Publisher

People and Global Business Association

Topic

  • Economics

Status

Published

ISBN/ISSN/Other

  • ISSN: 1088-6931