CDS Pricing Contagion : An event study into SVB’s collapse and its effects on European banks

Abstract

International Swaps and Derivatives Association (2019)show that the market activity in bilateral CDS contracts was approximately $5.8 trillion in executed notional value during the second quarter of 2019. The CDS-market has also informational value. Norden and Weber (2004) analyze the effect of credit rating changes to credit default swap and stock markets and find that both markets anticipate the upcoming rating change in advance. With growing interest on the market and the qualities of the Silicon Valley Bank’s collapse, it is of significant interest to evaluate the effects from the event through the lens of credit risk. This thesis investigates the existence and scale of financial contagion effects in European credit default swap spreads following and preceding the collapse of Silicon Valley Bank in March 2023. Utilizing a panel of CDS spreads from 24 major European banks, the thesis utilizes an event study framework with OLS modeling to capture potential relationship in CDS spreads and the collapse of SVB. Within the context and scope of this thesis the results indicate that there did exist a consistent and statistically significant relationship between SVB default event and European CDS spreads. While some individual banks exhibited no effects following the event, broader data suggests that SVB’s collapse did lead to widespread and systemic contagion across the European CDS market . The findings of this thesis are partly contrarian to the current literature on the topic of financial contagion and volatility spillovers and that might be due to the event windows used and the more granular type of more frequent data. The study emphasizes the sensitivity of modern financial markets to systemic events. The results reinforce the importance of monitoring derivative markets and adopting tools to mitigate possible contagion and spillover effects. By highlighting the channels through which contagion transitions, this research contributes to academic literature and is useful for practitioners of financial markets and regulators alike.