Mutual excitation in eurozone sovereign CDS

Yacine Aït-Sahalia, Roger J.A. Laeven, Loriana Pelizzon

Research output: Contribution to journalArticle

39 Scopus citations

Abstract

We study self- and cross-excitation of shocks in the Eurozone sovereign CDS market. We adopt a multivariate setting with credit default intensities driven by mutually exciting jump processes, to capture the salient features observed in the data, in particular, the clustering of high default probabilities both in time (over days) and in space (across countries). The feedback between jump events and the intensity of these jumps is the key element of the model. We derive closed-form formulae for CDS prices, and estimate the model by matching theoretical prices to their empirical counterparts. We find evidence of self-excitation and asymmetric cross-excitation. Using impulse-response analysis, we assess the impact of shocks and a potential policy intervention not just on a single country under scrutiny but also, through the effect on cross-excitation risk which generates systemic sovereign risk, on other interconnected countries.

Original languageEnglish (US)
Pages (from-to)151-167
Number of pages17
JournalJournal of Econometrics
Volume183
Issue number2
DOIs
StatePublished - 2014

All Science Journal Classification (ASJC) codes

  • Economics and Econometrics

Keywords

  • CDS
  • Feedback
  • Hawkes processes
  • Impulse-response
  • Jumps
  • Mutually exciting processes
  • Sovereign risk
  • Systemic risk

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