Safe-Haven CDS Premia

Dealing with dealers: Sovereign CDS comovements

“…pressure on CDS prices and comovements is supported by the increase in the real demand of dealers in the sovereign CDS market that exhibit an increasing trend since mid-2009 (see Klingler and Lando, 2014). These results are also in agreement with those obtained by Garleanu, Pedersen, and Poteshman (2009) and Bongaerts, de Jong, and Driessen (2011), among others, on the contribution of demand pressure to derivatives pricing.…”

“…We posit that the mechanism causing the CDS excess correlation is the buying pressure faced by CDS dealers. Specifically, we conjecture that the common demand on a given pair of sovereign CDS is explained by the dealers' urgency to buy protection in order to mitigate the credit risk in their portfolios and/or to lower regulatory capital requirements, especially in banks (Yorulmazer, 2013;Klingler and Lando, 2014;Hasan and Wu, 2016;Shan, Tang, and Yan, 2016;and Augustin, Sokolovski, Subrahmanyam, and Tomio, 2017).…”

“…The new regulatory requirements due to Basel III that aim to reduce counterparty credit risk in derivatives transactions have also contributed to increase dealers' demand pressure (see Klingler and Lando, 2014). 24.…”

A Macrofinance View of U.S. Sovereign CDS Premiums

“…Dealers are allowed to buy protection against sovereign default to reduce the capital charge associated with their counterparty risk exposure. As pointed out by Klingler and Lando (2015), a sovereign protection seller requires a positive CDS premium even when the sovereign is riskless because of the capital constraints. Anecdotally, some dealers began to implement the rule voluntarily in 2013.…”

“…Anecdotally, some dealers began to implement the rule voluntarily in 2013. Klingler and Lando (2015) empirically attribute a fraction of CDS premiums to this effect in their sample from 2010 to 2014.…”