© 2014 Research Academy of Social Sciences http://www.rassweb.com 70 Journal of Empirical Economics Vol. 2, No. 2, 2014, 70-87 CDS Spreads: an Empirical Analysis on the Determinants Eliana Angelini 1 , Elisa Di Febo 2 Abstract Since the financial crisis in 2007, policy makers and regulators have had an increasing interest in credit derivatives, in particular in credit default swap (CDS) agreements. The main point concerns the fears that speculative operations of these instruments on the market continue to generate and increase the tensions in the financial markets. The purpose of this paper is to examine the factors which define the changes of CDS premiums, therefore, to analyse the indicator ability of CDS spreads on the credit market. In detail, the empirical analysis is focused on a sample of 18 European corporate listed on the Stock Exchange holding five-year CDS spreads. The timeline considered is from 1 st January 2005 to 31 st December 2011, taking into account both the period before the financial crisis and that immediately after. Data has been elaborated from Datastream and Bloomberg. The choice to analyze the European companies has been made to verify the behaviour of the determinants of CDS in a market that has very different characteristics compared to the U.S (both structural and regulatory). An aspect that deserves special attention is the loss of significance of the "leverage" variable, as it is not consistent with the finding of the Merton’s Model. Keywords: CDS; Credit risk; Credit spreads. JEL classification: G120; G130; G29. 1. Introduction Since the financial crisis in 2007, policy makers and regulators have had an increasing interest in credit derivatives – in particular in credit default swap (CDS) agreements. The main point concerns the fears that the speculative operation of these instruments on the market continue to generate and increase the tensions in the financial markets, causing destabilizing effects. The credit derivatives represent an important instrument through which it is possible to separate, price, and transfer credit risk incorporated in a financial asset regardless the specific form it takes (bonds, bank loans, mortgages, etc.). The innovation generated by credit derivative is that a credit risk is not connected with any other risk elements which marks out assets and carries out a transfer of such risk on the market, without affecting the existing activities. The credit risk is evaluated and negotiated, favouring a more dynamic and flexible management of the related exposures. The CDS is a bilateral contract where a party (the protection buyer) transfers through the payment of a predetermined amount at a fixed deadline credit risk relevant to the financial instrument (reference entity) 3 to the other party (the protection seller); the counterpart, in return for periodic premiums, engages itself to pay a sum to the protection buyer in case a 1 Associate Professor of Financial Markets and Institution at “G.D’Annunzio” University of Pescara, Department of Economics 2 PhD Student in “Economics and Business” at “G. D’Annunzio” University of Pescara, Department of Economics 3 In addition to CDS contracts related to a specific reference entity (the so called single name CDS), there are further contracts which are as widespread: index or basket CDS. In such case each reference entity accounts for the same aggregate nominal value of the contract. The most widespread of the index CDS are those managed by Markit, which include the indices of European issuers with single name CDS (iTraxx indices) and those covering USA issuers (CDX indices).