Financial Sector Linkages and the Dynamics of Bank and Sovereign Credit Spreads

René Kallestrup, David Lando, Agatha Murgoci

Research output: Contribution to journalJournal articleResearchpeer-review

Abstract

We show that CDS premiums of sovereigns are significantly affected by the foreign exposures of their domestic banks. Our analysis uses a simple risk-weighted exposure measure which aggregates detailed data on the composition and risk of banks' foreign exposures. A 1 basis point change in our risk weighted exposure measure corresponds to an average change of approximately 0.4 bp in sovereign CDS spreads. Extensive robustness checks confirm that the explanatory power of our measure is not due to common factors in CDS premiums. We also measure the size and riskiness of the sovereign's implicit and explicit guarantees extended to its domestic banking system.
We show that CDS premiums of sovereigns are significantly affected by the foreign exposures of their domestic banks. Our analysis uses a simple risk-weighted exposure measure which aggregates detailed data on the composition and risk of banks' foreign exposures. A 1 basis point change in our risk weighted exposure measure corresponds to an average change of approximately 0.4 bp in sovereign CDS spreads. Extensive robustness checks confirm that the explanatory power of our measure is not due to common factors in CDS premiums. We also measure the size and riskiness of the sovereign's implicit and explicit guarantees extended to its domestic banking system.
LanguageEnglish
JournalJournal of Empirical Finance
Volume38
Issue numberPart A
Pages374-393
ISSN0927-5398
DOIs
StatePublished - Sep 2016

Keywords

  • Credit risk
  • Banks
  • Sovereign risk

Cite this

Kallestrup, René ; Lando, David ; Murgoci, Agatha. / Financial Sector Linkages and the Dynamics of Bank and Sovereign Credit Spreads. In: Journal of Empirical Finance. 2016 ; Vol. 38, No. Part A. pp. 374-393
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Financial Sector Linkages and the Dynamics of Bank and Sovereign Credit Spreads. / Kallestrup, René; Lando, David; Murgoci, Agatha.

In: Journal of Empirical Finance, Vol. 38, No. Part A, 09.2016, p. 374-393.

Research output: Contribution to journalJournal articleResearchpeer-review

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