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RESEARCH PRODUCT

Do sovereign ratings cause instability in cross-border emerging CDS markets?

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We analyse the cross-border transmission effect of credit ratings on sovereign CDSs covering a broad sample of emerging countries during the period 2004 to 2015. This study differentiates between the spillover and competition effects between and within geographical areas of emerging countries. We find substantial evidence of cross-border effects with asymmetric responses to upgrades and downgrades. The market reaction differs across regions, reflecting how the international and local impact of rating events are due to different types of effects. At the international portfolio level, the competitive effect is dominant over the spillover effect. Negative events in Asia benefit Africa (which is also negatively affected by upgrades in Asia) and Middle East, the latter transmitting in turn to Asia with the same competitive effect. However, some spillover effects are also found both at the portfolio and intra-portfolio levels. The ones associated with downgrades are especially sensitive. In these cases, we identify the particular emerging economies that contribute to an increase in financial instability and to regional spillover effects. The authors acknowledge financial support from the Fundación Ramón Areces and from the Spanish Ministry of Science, Innovation and Universities and FEDER project PGC2018-095072-B-I00. In addition, Ana González-Urteaga acknowledges financial support from the Ministry of Economics and Competitiveness through grant ECO2016-77631-R (AEI/FEDER.UE).