Sovereign Tail Risk

We provide a new measure of sovereign country risk exposure to global sovereign tail risk (SCRE) based on information incorporated in 5-year sovereign CDS spreads. Our panel regressions with quarterly data from 53 countries show that macro risks have strong explanatory power for SCRE. After controlling for liquidity conditions and financial market variables, SCRE increases for countries with higher interest rates, public debt, public deficit, credit-to-GDP, lower economic growth and looser monetary policy. We show that our risk exposure variable reacts significantly more than mean (median) CDS spreads to macro-financial risks. Our results therefore imply that good fundamentals protect countries against sovereign risk especially in times of global distress