The Collateral Rule: An Empirical Analysis of the CDS Market

Capponi, Agostino; Cheng, W. Allen; Giglio, Stefano; Haynes, Richard W.

doi:10.2139/ssrn.3069535

Cited by 7 publications

(7 citation statements)

References 26 publications

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“…Capponi and Cheng (2018) examine the tension between setting member fees and collateral levels and how, if made effectively, these choices limit contagion from portfolio shocks. Various empirical studies examine how CCPs set margin levels in practice (Duffie et al (2015); Capponi et al (2017)). These studies find that value-at-risk approaches tend to underestimate CCP collateral levels.…”

Section: Related Literaturementioning

confidence: 99%

“…In the case of the CCP, VaR approaches tend to underestimate CCP collateral levels (Duffie et al (2015); Capponi et al (2017)). Hence in this case we estimate the IM that would be required to meet a 10-day 99.5 percent VaR bilaterally for each of its counterparties, and then scale up the estimates by a common factor so that the total IM collected corresponds to the CCP's total reported IM at the end of 2014 (ICE (2016)).…”

Section: Initial Marginmentioning

confidence: 99%

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Contagion in Derivatives Markets

2020

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A major credit shock can induce large intraday variation margin payments between counterparties in derivatives markets, which may force some participants to default on their payments. These payment shortfalls become amplified as they cascade through the network of exposures. Using detailed Depository Trust & Clearing Corporation data, we model the full network of exposures, shock-induced payments, initial margin collected, and liquidity buffers for about 900 firms operating in the U.S. credit default swaps market. We estimate the total amount of contagion, the marginal contribution of each firm to contagion, and the number of defaulting firms for a systemic shock to credit spreads. A novel feature of the model is that it allows for a range of behavioral responses to balance sheet stress, including delayed or partial payments. The model provides a framework for analyzing the relative effectiveness of different policy options, such as increasing margin requirements or mandating greater liquidity reserves. This paper was accepted by Karl Diether, finance.

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Section: Related Literaturementioning

confidence: 99%

Section: Initial Marginmentioning

confidence: 99%

Contagion in Derivatives Markets

2020

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“…Capponi et al. () report that an active clearing member of ICC held on average $658M in initial margin over the 2014–2016 period…”

Section: Testing Model Predictionsmentioning

confidence: 99%

“…We incorporate their findings in our calibration procedure to ensure that the estimated margins are consistent with historical margin observations. Capponi et al (2017) report that an active clearing member of ICC held on average $658M in initial margin over the 2014-2016 period. 15 We estimate firm 's initial margin at time , , , to be proportional to its gross notional exposure, , , up to a scaling constant, .…”

Section: Initial Marginsmentioning

confidence: 99%

“…However, other portfolio characteristics, unobserved in our transactions data, may apply. These are the primary focus of Capponi, Cheng, Giglio, and Haynes (), who study collateral requirements in the CDS market using direct observations of members' initial margin amounts posted to the CCP. We incorporate their findings in our calibration procedure to ensure that the estimated margins are consistent with historical margin observations.…”

Section: Testing Model Predictionsmentioning

confidence: 99%

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Firm capital dynamics in centrally cleared markets

Capponi

Cheng

Rajan

2019

Mathematical Finance

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We develop a tractable continuous time model of multifirm capital dynamics in a centrally cleared market. Our framework jointly models the strategic interactions between business operations of firms and their trading activities. We show that the endogenous allocation of firm capital between trading and operations can be recovered as the unique fixed point of a system of quadratic equations. Our model predicts that (a) there exists a convex relationship between equilibrium margins and firm capital in the cross‐section, (b) market collateral demand is positively correlated with size concentration, and (c) size concentration is expected to increase over time. Using proprietary data on bilateral credit default swap exposures, we provide evidence that the convexity prediction is both economically and statistically significant and validate our model assumption that firms hedge excess risks.

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Credit default swaps and corporate bond trading

Czech

2021

Journal of Financial Intermediation

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Using regulatory data on CDS holdings and corporate bond transactions, I provide evidence for a liquidity spillover effect from CDS to bond markets. Bond trading volumes are larger for investors with CDS positions written on the debt issuer, in particular around rating downgrades. I use a quasi-natural experiment to validate these findings. I also provide causal evidence that CDS mark-to-market losses lead to fire sales in the bond market. I instrument for the prevalence of mark-to-market losses with the fraction of non-centrally cleared CDS contracts of an individual counterparty. The monthly corporate bond sell volumes of investors exposed to large mark-to-market losses are three times higher than those of unexposed counterparties. Returns decrease by more than 100 bps for bonds sold by exposed investors, compared to same-issuer bonds sold by unexposed investors. My findings underline the risk of a liquidity spiral in the credit market.

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The Collateral Rule: An Empirical Analysis of the CDS Market

Cited by 7 publications

References 26 publications

Contagion in Derivatives Markets

Contagion in Derivatives Markets

Firm capital dynamics in centrally cleared markets

Credit default swaps and corporate bond trading

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