Credit Ratings and Credit Default Swaps During the European Sovereign Debt Crisis

We investigate the relationship between credit rating events and credit default swap spreads for EU countries around the Subprime and European Debt Crises. Using event studies and OLS regressions we analyse the behavior of CDS spreads before, around and after credit rating events. Our results indicate that CDS spreads anticipate positive rating events as early as 2-3 months before the event however the anticipation for negative events is only 1-2 months prior; in addition we also observe announcement and post announcement effects in some instances. We also find that the behavior of CDS spreads and credit rating events has undergone a significant change after the crisis period. On similar lines, using logit and multinomial logit regressions we find that a change in CDS spreads are effective in predicting forthcoming credit rating events