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This paper studies systemic-risk connectedness in the European insurance sector at three levels of granularity: across major segments of financial markets, across insurance subsectors, and across individual insurance companies. Using a common connectedness framework applied to returns, volatility, value-at-risk, and expected shortfall, we document that insurers are an important component of systemic-risk connectednes…
Abstract We provide new empirical evidence that U.S. expected growth and consumption volatility are closely related to the strong comovement in sovereign spreads. We rationalize these findings in an equilibrium model with recursive utility for credit default swap (CDS) spreads. The framework links a reduced-form default process with country-specific sensitivity to expected growth and macroeconomic uncertainty. Exploi…
This paper introduces a novel stochastic model for credit spreads. The stochastic approach leverages the diffusion of default intensities via a CIR++ model and is formulated within a risk-neutral probability space. Our research primarily addresses two gaps in the literature. The first is the lack of credit spread models founded on a stochastic basis that enables continuous modeling, as many existing models rely on fa…
ABSTRACT Most structural models of default preclude the firm from altering its capital structure. In practice, firms adjust outstanding debt levels in response to changes in firm value, thus generating mean‐reverting leverage ratios. We propose a structural model of default with stochastic interest rates that captures this mean reversion. Our model generates credit spreads that are larger for low‐leverage firms, and …
ABSTRACT This article examines the optimal capital structure of a firm that can choose both the amount and maturity of its debt. Bankruptcy is determined endogenously rather than by the imposition of a positive net worth condition or by a cash flow constraint. The results extend Leland's (1994a) closed‐form results to a much richer class of possible debt structures and permit study of the optimal maturity of debt as …
Persistent shifts in term-structure dynamics undermine the stability of single-regime models in long samples. We develop an arbitrage-free regime-switching generalized CIR (RS-GCIR) model that jointly prices the Chinese government bond (CGB) curve and corporate bond curves. To capture the systematic transmission from interest-rate conditions to credit spreads, we structure the model into two blocks and price corporat…
We explore the interplay between sovereign debt default/renegotiation and environmental factors (e.g., pollution from land use, natural resource exploitation). Pollution contributes to the likelihood of natural disasters and influences economic growth rates. The country can default on its debt at any time while also deciding whether to invest in pollution abatement. The framework provides insights into the credit spr…
Constructing an accurate yield curve is essential for evaluating financial instruments and analyzing market trends in the bond market. However, in the case of the Burundian sovereign bond market, the presence of missing data poses a significant challenge to accurately constructing the yield curve. In this paper, we explore the limitations and data availability constraints specific to the Burundian sovereign market an…
This paper analyses the Chinese Sovereign bond yield to find out the principal factors affecting the term structure of interest rate changes. We apply Principal Component Analysis (PCA) on our data consisting of the Chinese Sovereign bond from January 2002 till May 2018 with the different yield to maturity. Then we will discuss the multi-factor immunization model (method on hedging market risk) on a bond portfolio.
Over the last decade, the foreign exchange derivatives market has witnessed a collapse of covered interest parity (CIP). Not only does this collapse give rise to large deviations from CIP, it has unlocked a stream of exploitable arbitrage opportunities across currencies. In this paper, we introduce two new factors – inflation differential and relative economic performance – as potential drivers of deviations from CIP…
Using micro-level data, we construct a credit spread index with considerable predictive power for future economic activity. We decompose the credit spread into a component that captures firm-specific information on expected defaults and a residual component–– the excess bond premium. Shocks to the excess bond premium that are orthogonal to the current state of the economy lead to declines in economic activity and ass…
In this paper, we consider a generic interest rate market in the presence of roll-over risk, which generates spreads in spot/forward term rates. We do not require classical absence of arbitrage and rely instead on a minimal market viability assumption, which enables us to work in the context of the benchmark approach. In a Markovian setting, we extend the control theoretic approach of Gombani & Runggaldier (2013) and…
In this paper, we search whether the Benford's law is applicable to monitor daily changes in sovereign Credit Default Swaps (CDS) quotes, which are acknowledged to be complex systems of economic content. This test is of paramount importance since the CDS of a country proxy its health and probability to default, being associated to an insurance against the event of its default. We fit the Benford's law to the daily ch…
ABSTRACT We model a loop between sovereign and bank credit risk. A distressed financial sector induces government bailouts, whose cost increases sovereign credit risk. Increased sovereign credit risk in turn weakens the financial sector by eroding the value of its government guarantees and bond holdings. Using credit default swap (CDS) rates on European sovereigns and banks, we show that bailouts triggered the rise o…
We study the nature of sovereign credit risk using an extensive sample of CDS spreads for 26 developed and emerging-market countries.Sovereign credit spreads are surprisingly highly correlated, with just three principal components accounting for more than 50 percent of their variation.Sovereign credit spreads are generally more related to the U.S. stock and high-yield bond markets, global risk premia, and capital flo…
We examine how heavy-tailed liquidity demand changes price discovery in a sequential limit order book with asymmetric information. In our setting, liquidity suppliers observe aggregate order flow, not its decomposition into informed demand and uninformed liquidity shocks. With heavy-tailed uninformed aggregated order flow, large trades remain plausibly uninformed over a wider range of depths, flattening price impact …
We show that net demand for liquidity by algo strategies is identifiable from its trade and price history alone, with no knowledge of its signal or optimization problem. An exact multi-period regret decomposition implies that the sign of this statistic classifies a linear strategy as a net liquidity consumer or provider, recovering the Kyle (1985) informed-trader/market-maker dichotomy from observables alone. Under a…
Prediction markets are starting to look less like crowd polls and more like electronic markets. The central question is therefore no longer only whether these markets forecast well, but what happens when institutional liquidity enters: do spreads tighten, does price discovery improve, and do those gains actually reach the traders who are slowest to react when information arrives? This paper offers a research design f…
BTP-Bund spread measures the yield difference between Italian and German government bonds and is a key indicator of euro-area sovereign stress and fragmentation risk.
EMBI sovereign spread measures the yield premium on emerging-market sovereign debt over U.S. Treasuries and serves as a key gauge of EM credit risk and external financing stress.