Intra-Industry Credit Contagion: Evidence from the Credit Default Swap and Stock Markets

39 Pages Posted: 16 Jan 2006

See all articles by Gaiyan Zhang

Gaiyan Zhang

University of California, Irvine

Philippe Jorion

University of California, Irvine - Paul Merage School of Business

Date Written: February 2006

Abstract

This study examines the information transfer effect of credit events across the industry, as captured in the Credit Default Swaps (CDS) and stock markets. Positive correlations across CDS spreads imply dominant contagion effects, whereas negative correlations indicate competition effects. We find strong evidence of dominant contagion effects for Chapter 11 bankruptcies and competition effect for Chapter 7 bankruptcies. We also introduce a purely unanticipated event, which is a large jump in a company's CDS spread, and find that this leads to the strongest evidence of credit contagion across the industry. These results have important implications for the construction of portfolios with credit-sensitive instruments.

Keywords: credit default swaps, bankruptcy, contagion, market reaction, event study

JEL Classification: G14, G18, G33

Suggested Citation

Zhang, Gaiyan and Jorion, Philippe, Intra-Industry Credit Contagion: Evidence from the Credit Default Swap and Stock Markets (February 2006). AFA 2007 Chicago Meetings Paper, Available at SSRN: https://ssrn.com/abstract=876145 or http://dx.doi.org/10.2139/ssrn.876145

Gaiyan Zhang

University of California, Irvine ( email )

Campus Drive
Irvine, CA 62697-3125
United States

Philippe Jorion (Contact Author)

University of California, Irvine - Paul Merage School of Business ( email )

Campus Drive
Irvine, CA 92697-3125
United States
949-824-5245 (Phone)
949-824-8469 (Fax)

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