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Credit default swaps: what are these products and what influences its prices?
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This thesis starts by describing credit default swaps (CDS), their benefits, costs, and how the
market for these credit derivatives has been evolving in the past years. The main question that
this thesis aims to answer is what are the factors that influence the prices of these financial
products. The period under analysis goes from January 2006 to December 2016, and a sample
of 72 European non-financial companies has been used. Through an econometric study using
panel data regressions, the three theoretical determinants – leverage, risk-free rate and volatility
- proposed by Merton’s model are firstly tested. All variables are found to be statistically
significant but the low explanatory power of this regression (14.88%) suggests there are other
factors influencing CDS prices. By considering additional variables accounting for firm, market
and liquidity factors, the explanatory power of all determinants more than doubled (34.33%).
In addition, there is a multi-period analysis where all the determinants are analysed in different
periods of the whole sample to check for changes in their significance. The main conclusion is
that the theoretical determinants have rather limited power when explaining CDS prices and
therefore other variables should be, though carefully, considered. In addition, not all variables
have always had the same significance when explain CDS price changes. This thesis ends with
a consideration of its limitations, and some suggestions to overcome these issues.
I would like to sincerely thank both my thesis supervisors, professor João Pereira from Nova
School of Business and Economics and professor Luc Henrard from the Louvain School of
Management for their help, advices and availability throughout this project.
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Palavras-chave
Credit default swaps CDS spreads Structural models Explanatory variables Merton’s model Regressions