Gaiyan Zhang

Information Effects of Bond Rating Changes: The Role of the Rating Prior to the Announcement

This article shows that studies of announcement effects of bond rating changes should take into account the rating prior to the announcement. First, we provide theoretical support for different price effects as a non-linear function of the prior credit rating, using a structural, Merton-type model linking the change in default probability to the change in the stock price. Next, we show that this theoretical prediction is verified in the empirical data. We find much stronger information effects, measured by stock price effects, for rating changes for low-rated firms relative to high-rated firms. Accounting for the role of the rating prior to the announcement explains in large part the puzzling empirical regularity that stock price effects are associated with downgrades but not upgrades. In addition, it eliminates the investment-grade barrier effect reported in previous studies.

Are the U.S. Stock Market and Credit Default Swap Market Related?: Evidence from the CDX Indices

This article examines the market-wide relations between the U.S. stock market and the credit default swap (CDS) market for the period 2001–2007. Results indicate that the lead-lag relationship between the U.S. stock market and the CDS market depends on the credit quality of the underlying reference entity. Specifically, this article finds significant mutual feedback of information between the stock market and the high-yield CDS market in terms of pricing and volatility, while the stock market leads the investment-grade CDS index in the pricing process. The CDS market seems to play a more significant role in volatility spillover than the stock market. That is, volatilities of both the investment-grade and high-yield CDS indices seem to lead the stock market volatility, while the latter has a feedback effect to that of the high-yield CDS market only. Overall, the implication is that market participants should seek information in both markets when they are about to engage in trading and/or hedging

Do Credit Default Swaps Predict Currency Values

Using daily data of four currencies (Japanese Yen (JPY), Euro (EUR), British Pound (GBP) and Australian Dollar (AUD)) in terms of the US Dollar (USD), and JPY, USD, GBP and AUD in terms of the EUR from January 2004 to February 2008, we examine the lead–lag relationship between the Credit Default Swap (CDS) market and the currency market. Results indicate significant Granger-causality effects flowing from changes in both the North American investment-grade (IG) and high-yield (HY) CDS indices to changes in the JPY, EUR and AUD exchange rates in terms of the USD for the whole period and during the credit crisis of 2007 to 2008. However, for the four currencies in terms of the EUR, significant Granger-causality of the credit risk is found only in the AUD. Our results indicate that changes in CDS index spreads signal important carry-trade information for some currencies, but not others.

China’s Foreign Exchange Market

China’s economy has been growing rapidly since the late 1970s and is expected to maintain this momentum in the foreseeable future. Coupled with the biggest population in the world, there is tremendous growth potential for China’s capital markets and financial services industry, both vital to the continued development of the economy. The contributors present research on all facets of China’s markets including: stock and bond markets; futures and over-the-counter markets; regulatory issues; and the development and roles of financial institutions such as brokerage firms, banks and insurance companies. Also addressed are the recent performance of equity markets, the emergence of small and medium enterprises, and the state banks’ bids to be listed in overseas stock exchanges. Taken together, the book sheds a welcome light on China’s overall economic growth.