Ultimate access to all questions.
Explanation:
While sovereign credit spreads adjust more quickly to new information than sovereign ratings, they are also more volatile. Rating stability is one of the objectives of rating agencies; a rating is changed only when there is reason to believe the long-term financial health of the firm or country has changed.
Option A is incorrect. The CDS spreads of groups of countries tend to cluster together, which does not necessarily reflect default risk. In addition, the CDS market is subject to illiquidity.
Option C is incorrect. Pricing in the CDS market can also be influenced by counterparty risk (these concerns rose during the 2007-2008 credit crisis), illiquidity problems, and clustering (i.e., where the CDS spreads of groups of countries move together in a way that does not necessarily reflect default risk).
Option D is incorrect. Credit spreads are more granular than ratings (i.e., there is a range of credit spreads associated with one rating). A country with a given rating may have a lower credit spread (and therefore be perceived as less risky) than another country with the same rating.
Q.38 A risk analyst is comparing different measures of sovereign default risk. The analyst examines the use of sovereign ratings, sovereign credit default swap (CDS) spreads, and sovereign credit spreads. Which of the following statements is correct?
A
An advantage of using sovereign CDS spreads is that the CDS market is highly liquid and is not vulnerable to clustering, which can affect the estimation of credit risk.
B
Sovereign credit spreads adjust more quickly to new information than sovereign ratings and lead to less stable credit risk estimates.
C
Sovereign CDS spreads track credit risk better than sovereign credit spreads because the sole risk exposure for a CDS is the default risk of the subject country.
D
When two countries have the same sovereign rating, they typically have the same sovereign credit spread.
No comments yet.