Hostname: page-component-cd9895bd7-jn8rn Total loading time: 0 Render date: 2024-12-20T14:33:19.388Z Has data issue: false hasContentIssue false
  • English
  • Français

Credit Default Swaps and Firm Cyclicality

Published online by Cambridge University Press:  31 October 2023

Lars Norden Open the ORCID record for Lars Norden [Opens in a new window] ,
Chao Yin  and
Lei Zhao
Lars Norden*
Affiliation:
Getulio Vargas Foundation Brazilian School of Public and Business Administration and EPGE Brazilian School of Economics and Finance
Chao Yin
Affiliation:
University of Edinburgh Business School chao.yin@ed.ac.uk
Lei Zhao
Affiliation:
ESCP Business School Finance Department lzhao@escp.eu
*
lars.norden@fgv.br (corresponding author)
Rights & Permissions [Opens in a new window]

Abstract

Core share and HTML view are not available for this content. However, as you have access to this content, a full PDF is available via the ‘Save PDF’ action button.

We find firm cyclicality decreases by 40% after the inception of credit default swap (CDS) trading. The effect stems from CDS firms’ less aggressive asset growth in good times and is stronger for firms facing a more severe empty creditor problem. Important identification issues are addressed. The result cannot be explained with debt overhang, bank lending cyclicality, or the cyclicality of firms’ business fundamentals. It holds for the cyclicality of various corporate outcomes (inventories, cash, and employment). Importantly, CDS trading impedes unhealthy growth and enhances profitability and firm value. Our finding indicates an important positive real effect of financial innovation.

Type
Research Article
Information
Journal of Financial and Quantitative Analysis , First View , pp. 1 - 28
Copyright
© The Author(s), 2023. Published by Cambridge University Press on behalf of the Michael G. Foster School of Business, University of Washington

Footnotes

The authors thank an anonymous referee and Jennifer Conrad (the editor) for very helpful comments and suggestions. They also thank Dion Bongaerts, Sudheer Chava, Florian Kiesel, Rafael Matta, Christophe Moussu, Chardin Wese Simen, Dragon Yongjun Tang, Michael Troege, Gyuri Venter, Wolf Wagner, Sarah Wang, and participants at the 2023 Finance Seminar at Leibniz University Hannover, the 2021 Brazilian Finance Society Meetings, and the 2021 Paris December Finance Meetings for comments. Parts of the article were written when Norden was visiting Georgetown University and the International Monetary Fund in Washington, DC in 2022.

References

Aghion, P.; Angeletos, G.; Banerjee, A.; and Manova, K.. “Volatility and Growth: Credit Constraints and Productivity-Enhancing Investment.” NBER Working Paper No. 11349 (2005).CrossRefGoogle Scholar
Aghion, P., and Saint-Paul, G.. “Virtues of Bad Times: Interaction Between Productivity Growth and Economic Fluctuations.” Macroeconomic Dynamics, 2 (1998), 322–344.CrossRefGoogle Scholar
Amiram, D.; Beaver, W.; Landsman, W.; and Zhao, J.. “The Effects of Credit Default Swap Trading on Information Asymmetry in Syndicated Loans.” Journal of Financial Economics, 126 (2017), 364–382.CrossRefGoogle Scholar
Ashcraft, A., and Santos, J.. “Has the CDS Market Lowered the Cost of Corporate Debt?” Journal of Monetary Economics, 56 (2009), 514–523.CrossRefGoogle Scholar
Bai, H., and Zhang, L.. “Searching for the Equity Premium.” Journal of Financial Economics, 143 (2022), 897–926.CrossRefGoogle Scholar
Baker, M.; Hoeyer, M.; and Wurgler, J.. “Leverage and the Beta Anomaly.” Journal of Financial and Quantitative Analysis, 55 (2020), 1491–1514.CrossRefGoogle Scholar
Barlevy, G. “On the Timing of Innovation in Stochastic Schumpeterian Growth Models.” NBER Working Paper No. 10741 (2004).CrossRefGoogle Scholar
Barlevy, G. “On the Cyclicality of Research and Development.” American Economic Review, 97 (2007), 1131–1164.CrossRefGoogle Scholar
Bartram, S; Conrad, J.; Lee, J.; and Subrahmanyam, M.. “Credit Default Swaps Around the World.” Review of Financial Studies, 35 (2022), 2464–2524.CrossRefGoogle Scholar
Batta, G., and Yu, F.. “Credit Derivatives and Firm Investment.” Working Paper, Claremont McKenna College (2019).Google Scholar
Becker, B.; Bos, M.; and Roszbach, K.. “Bad Times, Good Credit.” Journal of Money. Credit and Banking, 52 (2020), 107–142.CrossRefGoogle Scholar
Becker, B., and Ivashina, V.. “Cyclicality of Credit Supply: Firm Level Evidence.” Journal of Monetary Economics, 62 (2014), 76–93.CrossRefGoogle Scholar
Berger, P.; Ofek, E.; and Swary, I.. “Investor Valuation and the Abandonment Option.” Journal of Financial Economics, 42 (1996), 257–287.CrossRefGoogle Scholar
Bolton, P., and Oehmke, M.. “Credit Default Swaps and the Empty Creditor Problem.” Review of Financial Studies, 24 (2011), 2617–2655.CrossRefGoogle Scholar
Bushee, B. “Do Institutional Investors Prefer Near-Term Earnings over Long-Run Value?” Contemporary Accounting Research, 18 (2001), 207–246.Google Scholar
Campello, M., and Matta, R.. “Credit Default Swaps and Risk-Shifting.” Economics Letters, 117 (2012), 639–641.CrossRefGoogle Scholar
Campello, M., and Matta, R.. “Investment Risk, CDS Insurance, and Firm Financing.” European Economic Review, 125 (2020), 103424.CrossRefGoogle Scholar
Chakraborty, I.; Chava, S.; and Ganduri, R.. “Credit Default Swaps and Lender Incentives in Bank Debt Renegotiations.” Journal of Financial and Quantitative Analysis, 58 (2023), 1911–1942.CrossRefGoogle Scholar
Chang, X.; Chen, Y.; Wang, S.; Zhang, K.; and Zhang, W.. “Credit Default Swaps and Corporate Innovation.” Journal of Financial Economics, 134 (2019), 474–500.CrossRefGoogle Scholar
Chava, S.; Ganduri, R.; and Ornthanalai, C.. “Do Credit Default Swaps Mitigate the Impact of Credit Rating Downgrades?” Review of Finance, 23 (2019), 471–511.CrossRefGoogle Scholar
Chen, H., and Chen, S.. “Investment-Cash Flow Sensitivity Cannot Be a Good Measure of Financial Constraints: Evidence from the Time Series.” Journal of Financial Economics, 103 (2012), 393–410.CrossRefGoogle Scholar
Choudhry, M. “Structured Credit Products: Credit Derivatives and Synthetic Securitisation.” Second ed. Hoboken, NJ: John Wiley and Sons (2011).Google Scholar
Colonnello, S.; Efing, M.; and Zucchi, F.. “Shareholder Bargaining Power and the Emergence of Empty Creditors.” Journal of Financial Economics, 134 (2019), 297–317.CrossRefGoogle Scholar
Comin, D., and Gertler, M.. “Medium-Term Business Cycles.” American Economic Review, 96 (2006), 523–551.CrossRefGoogle Scholar
Cooper, M.; Gulen, H.; and Schill, M.. “Asset Growth and the Cross-Section of Stock Returns.” Journal of Finance, 63 (2008), 1609–1651.CrossRefGoogle Scholar
Danis, A., and Gamba, A.. “The Real Effects of Credit Default Swaps.” Journal of Financial Economics, 127 (2018), 51–76.CrossRefGoogle Scholar
Danis, A., and Gamba, A.. “Dark Knights: The Rise in Firm Intervention by CDS Investors.” Management Science, forthcoming (2024).CrossRefGoogle Scholar
Degryse, H.; Gündüz, Y.; O’Flynn, K.; and Ongena, S.. “Identifying Empty Creditors with a Shock and Micro-Data.” Discussion Paper No. 45/2021, Deutsche Bundesbank (2021).CrossRefGoogle Scholar
Dell’Ariccia, G., and Marquez, R.. “Lending Booms and Lending Standards.” Journal of Finance, 61 (2006), 2511–2546.CrossRefGoogle Scholar
Hu, H., and Black, B.. “Debt, Equity, and Hybrid Decoupling: Governance and Systemic Risk Implications.” European Financial Management, 14 (2008), 663–709.CrossRefGoogle Scholar
Jensen, M., and Meckling, W.. “Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure.” Journal of Financial Economics, 3 (1976), 305–360.CrossRefGoogle Scholar
Kim, G. “Credit Derivatives as a Commitment Device: Evidence from the Cost of Corporate Debt.” Journal of Banking and Finance, 73 (2016), 67–83.CrossRefGoogle Scholar
Malmendier, U., and Tate, G.. “Who Makes Acquisitions? CEO Overconfidence and the Market’s Reaction.” Journal of Financial Economics, 89 (2008), 20–43.CrossRefGoogle Scholar
Mian, A., and Sufi, A.. “The Consequences of Mortgage Credit Expansion: Evidence from the US Mortgage Default Crisis.” Quarterly Journal of Economics, 124 (2009), 1449–1496.CrossRefGoogle Scholar
Moeller, S.; Schlingemann, F.; and Stulz, R.. “Firm Size and the Gains from Acquisitions.” Journal of Financial Economics, 73 (2004), 201–228.CrossRefGoogle Scholar
Moeller, S.; Schlingemann, F.; and Stulz, R.. “Wealth Destruction on a Massive Scale? A Study of Acquiring-Firm Returns in the Recent Merger Wave.” Journal of Finance, 60 (2005), 757–782.CrossRefGoogle Scholar
Mortal, S., and Schill, M.. “The Post-Acquisition Returns of Stock Deals: Evidence of the Pervasiveness of the Asset Growth Effect.” Journal of Financial and Quantitative Analysis, 50 (2015), 477–507.CrossRefGoogle Scholar
Narayanan, R., and Uzmanoglu, C.. “Credit Default Swaps and Firm Value.” Journal of Financial and Quantitative Analysis, 53 (2018), 1227–1259.CrossRefGoogle Scholar
Norden, L., and Wagner, W.. “Credit Derivatives and Loan Pricing.” Journal of Banking and Finance, 32 (2008), 2560–2569.CrossRefGoogle Scholar
Ouyang, M. “On the Cyclicality of R&D.” Review of Economics and Statistics, 93 (2011), 542–553.CrossRefGoogle Scholar
Saretto, A., and Tookes, H.. “Corporate Leverage, Debt Maturity, and Credit Supply: The Role of Credit Default Swaps.” Review of Financial Studies, 26 (2013), 1190–1247.CrossRefGoogle Scholar
Subrahmanyam, M.; Tang, D.; and Wang, S.. “Does the Tail Wag the Dog? The Effect of Credit Default Swaps on Credit Risk.” Review of Financial Studies, 27 (2014), 2927–2960.CrossRefGoogle Scholar
Subrahmanyam, M.; Tang, D.; and Wang, S.. “Credit Default Swaps, Exacting Creditors and Corporate Liquidity Management.” Journal of Financial Economics, 124 (2017), 395–414.CrossRefGoogle Scholar
Titman, S.; Wei, J.; and Xie, F.. “Capital Investments and Stock Returns.” Journal of Financial and Quantitative Analysis, 39 (2004), 677–700.CrossRefGoogle Scholar
Wong, T., and Yu, J.. “Credit Default Swaps and Debt Overhang.” Management Science, 68 (2022), 2069–2097.CrossRefGoogle Scholar
Wooldridge, J. Econometric Analysis of Cross Section and Panel Data. Cambridge, MA: MIT Press (2002).Google Scholar
Wooldridge, J. “Control Function Methods in Applied Econometrics.” Journal of Human Resources, 50 (2015), 420–445.CrossRefGoogle Scholar
Wu, W.; Fok, R.; Chang, Y.; and Chen, C.. “Credit Default Swaps and Corporate Performance Smoothing.” Journal of Corporate Finance, 75 (2022), 102238.CrossRefGoogle Scholar
Supplementary material: File

Norden et al. supplementary material

Norden et al. supplementary material
Download Norden et al. supplementary material(File)
File 85.8 KB