Modelling the dependence structures of Australian iTraxx CDS index

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Abstract:

In contrast to market expectations, the correlation between credit default swap (CDS) spreads and their respective stock prices in Australia was found to be positive. The global financial crisis (GFC) affected the nonlinear association between the two asset classes with firms experiencing financial distress and stock prices plummeting. CDSs issuers reacted to such exogenous shocks by increasing their risk premiums on their spreads, reflecting the increased inherent risk. By splitting the data into pre- and post-GFC contexts and by employing the use of Archimedean copulas, we observe a negative co-movement in the post-GFC period. This finding is robust to several equity indices. Overall, such result is critical for investors engaging in arbitrageur activities.

Keywords: Archimedean copulas; C02; G19; G23; iTraxx CDS indices; nonparametric estimates

Document Type: Research Article

DOI: http://dx.doi.org/10.1080/00036846.2013.849378

Affiliations: Department of Accounting and Finance, Monash University, Caulfield East, 3145, Australia

Publication date: February 1, 2014

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