CDS Auctions and Informative Biases in CDS Recovery Rates

45 Pages Posted: 15 Dec 2011 Last revised: 29 Jul 2013

See all articles by Sudip Gupta

Sudip Gupta

Johns Hopkins University

Rangarajan K. Sundaram

New York University (NYU) - Department of Finance

Multiple version iconThere are 2 versions of this paper

Date Written: May 25, 2012

Abstract

Introduced in 2005 to identify recovery rates and so facilitate cash settlement in the multi-trillion dollar credit default swap market, credit-event auctions have a novel and complex two-stage structure that makes them distinct from other auction forms. Examining the efficacy of the auction's price-discovery process, we find that the auction price has a significant bias relative to pre- and post-auction market prices for the same instruments, and that volatility of market prices often increases after the auction. Nonetheless, we find that the auction generates information that is critical for post-auction market price formation. Auction outcomes are heavily influenced by strategic considerations and "winner's curse" concerns that could explain the observed biases. Structural estimation of the auction carried out under some simplifying assumptions suggests that alternative auction formats could reduce the bias in the auction final price.

Keywords: Credit default swaps, CDS credit-event auctions, price discovery, underpricing bias, winner's curse, structural estimation of auctions

Suggested Citation

Gupta, Sudip and Sundaram, Rangarajan K., CDS Auctions and Informative Biases in CDS Recovery Rates (May 25, 2012). NYU Working Paper No. FIN-11-030, Available at SSRN: https://ssrn.com/abstract=1972801

Sudip Gupta

Johns Hopkins University ( email )

Baltimore, MD 20036-1984
United States

Rangarajan K. Sundaram (Contact Author)

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0308 (Phone)
212-995-4233 (Fax)

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
188
Abstract Views
1,597
Rank
190,265
PlumX Metrics