Politics and contagion: the impacts of political risk assessments on ASEAN credit default swap spread co-movements
Date
2017
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Abstract
CDS markets in the ASEAN region have been growing throughout the years. In terms of trading
volumes, Indonesia, Malaysia, Philippine, Thai and Vietnamese CDS markets belong to the top 35
markets worldwide. With the nature of being emerging markets, higher credit risk is then associated
with the ASEAN region. After the global financial crisis, research has been drawn to studying global
sovereign credit risk, but few have focused on the ASEAN region. This paper seeks to examine
sovereign credit co-movements of the ASEAN region and its determinants. We further contribute to
the literature by examining the impacts of political risks on credit risk correlations.
Time-varying correlations are estimated from a multivariate GARCH DCC model, as developed
by Engle (2002), for sovereign CDS premium spreads of 9 select Asian countries, from 2008-2017.
Statistically-significant periods of contagion are identified to separate contagious and business-as-usual
periods. Lastly, fixed-effects and random-effects panel regressions are used to estimate gravity-type
models and to analyze the determinants behind credit risk co-movements across contagious and
business-as-usual periods. The results of this paper show that political risk plays a significant role in
moving time-varying correlations within the region for business-as-usual periods. Evidence is also
found of ‘decoupling’ events, wherein credit risk correlations fall sharply, as opposed to contagion
events wherein credit risk correlations spike.
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Keywords
ASEAN, credit risk correlations, credit default swaps, political risk, contagion