Price Discovery between Sovereign Credit Default Swaps and Bond Yield Spreads of Emerging Markets

Abstract

Given the vast growth in credit default swap (CDS) market over the last few years, a dramatic improvement is projected in pricing discovery of sovereign CDS as well as its interaction with the underlying bond markets. In this article, a recent comprehensive sample of 20 sovereign CDS spreads, along with their underlying bonds, is examined for the pricing equilibrium for emerging markets. On the basis of the tests of vector error correction model and Granger causality, and by comparing with prior studies, this article finds that sovereign CDS market has served as more significant tool in measuring sovereign credit risk than before.