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2019 | OriginalPaper | Buchkapitel

4. Credit Risk

verfasst von : Andrada Bilan, Hans Degryse, Kuchulain O’Flynn, Steven Ongena

Erschienen in: Banking and Financial Markets

Verlag: Springer International Publishing

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Abstract

These days banks can trade away credit risk (i.e., the risk that the loan amount will not be returned due to borrower financial distress), by using the credit default swaps (CDS) market. In this chapter, we begin by describing credit default swaps and key events in the CDS market. We then study how modern finance has affected banks credit rate risk management through the use of credit default swaps (CDS). Next we discuss the literature that seeks to uncover the externalities of the decision to hedge credit risk using CDS. In particular, we focus on how this affects other credit markets and the CDS references firms, how these referenced firms respond to having CDS traded on their debt, and, finally, how CDS trading affects non-reference firms.

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Vorheriges Kapitel Interest Rate Risk

Nächstes Kapitel Collateral and Lending

CDS differ from standard insurance contracts as a protection buyer does not need to hold the underlying asset, and it may purchase protection that exceeds the value of its position in the underlying. This can be thought of as buying insurance on your neighbour’s house, or insuring your own home for more than its worth.

The residual value of the underlying debt is typically determined by polling the dealers in the market.

These are: Bloomberg CMA CDS data, Markit CDS data, CreditTrade, and GFI. See Mayordomo et al. (2014) for a detailed comparison of these databases.

These include DTCC Derivatives Repository Ltd., Krajowy Depozyt Papierów Wartosciowych S.A, Regis-TR S.A., UnaVista Ltd., CME Trade Repository Ltd., ICE Trade Vault Europe Ltd., Bloomberg Trade Repository Limited, and NEX Abide Trade Repository AB.

Banks may trade credit risk transfer instruments for other reasons. As one of the primary functions of banks is the monitoring and collection of information on their borrowers, banks gain insider information about their borrowers. Banks may trade credit risk transfer instruments to exploit their informational advantage. Indeed, Acharya and Johnson (2007) find significant evidence for insider trading in the credit derivatives.

For example, in Subrahmanyam et al. (2014) a bank’s foreign exchange hedging behaviour is correlated with its CDS hedging behaviour but does not determine the borrowers credit rating directly.

In the Basel regulation, CDS is considered to be a hedging instrument. The risk weight on a retained unhedged loan is 100% under Basel III. Under Basel III, the credit risk weight on OTC CDS contracts is 20% while only 2% if centrally cleared. Basel I and Basel II did not make a distinction between OTC and centrally cleared CDS.

Following Ashcraft and Santos (2009), Amiram et al. (2017) proxy for the liquidity of CDS contracts with the number of dealers providing CDS quotes for a borrower, while Streitz (2016) used borrowers’ CDS bid-ask spread to loan size as a measure of liquidity. As in Streitz (2016), Amiram et al. (2017) follow Sufi (2007) and measure the reputation of the lead arranger as its market share of in the syndicated loan market in the prior year.

The borrower characteristics are: ROA, Profit, Tangible Assets, Leverage, Log(total asset), Credit Rating, and DCV (a measure of opacity).

Colonnello et al. (2016) use this event as a robustness test and find that their results are robust to using this event.

Danis (2016) defines the participation rate as the face value of bonds tendered divided by the total face value of bonds outstanding. The author states that the participation rate is an indicator of the success of restructuring as it is positively associated with debt reduction for the firm.

Caglio et al. (2018) employ a similar data set from the DTCC. While the data in Degryse et al. (2019) is from German banks and firms, the data in Caglio et al. (2018) is from US banks and firms.

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Titel: Credit Risk
verfasst von: Andrada Bilan
Hans Degryse
Kuchulain O’Flynn
Steven Ongena
Verlag: Springer International Publishing
Buch: Banking and Financial Markets
Print ISBN: 978-3-030-26843-5

Electronic ISBN: 978-3-030-26844-2

Copyright-Jahr: 2019
DOI: https://doi.org/10.1007/978-3-030-26844-2_4