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On the Relationship Between Asian Credit Default Swap and Equity Markets

Kam C. Chan (Western Kentucky University)
Hung‐Gay Fung (University of Missouri–St. Louis)
Gaiyan Zhang (University of Missouri–St. Louis)

Journal of Asia Business Studies

ISSN: 1558-7894

Article publication date: 16 October 2009

698

Abstract

When extended to sovereign issuers, the Merton‐type structural model suggests a negative relationship between sovereign credit default swap (CDS) spreads and stock prices. In practice, capital structure arbitrage that exploits such relationships should foster the integration of CDS and the stock market and improve price discovery. This paper studies the dynamic relationship between sovereign CDS spreads and stock prices for seven Asian countries for the period from January 2001 to February 2007. We find a strong negative correlation between the CDS spread and the stock index for most Asian countries. A long‐run equilibrium price relationship is found for China, Korea, and Thailand. The limited integration in other countries may arise from market frictions and model applicability. In terms of price discovery, CDS markets play a leading role in five out of seven countries. Therefore, equity investors should span the CDS market for incremental information. The stock market has a feedback effect for two countries and dominates price discovery for only one country.

Keywords

Citation

Chan, K.C., Fung, H. and Zhang, G. (2009), "On the Relationship Between Asian Credit Default Swap and Equity Markets", Journal of Asia Business Studies, Vol. 4 No. 1, pp. 3-12. https://doi.org/10.1108/15587890980000414

Publisher

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Emerald Group Publishing Limited

Copyright © 2009, Emerald Group Publishing Limited

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