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The co-integration of CDS and bonds in time-varying volatility dynamics: do credit risk swaps lower bond risks?

  • Leon Li EMAIL logo and Frank Scrimgeour


This study analyzes the co-integration relationship between sovereign bonds and credit default swaps (CDS) and then examines the impact of CDS-bond deviation from the relationship on market volatility using the Markov-switching approach. Our empirical sample consists of the daily CDS premium and bond yield spread obtained with the DataStream database for the period from 2008 to 2014. Our empirical results show that the absolute value of the CDS-bond deviation is positively related to the probability of a high volatility regime and negatively related to the probability of a low volatility regime. This result implies a positive association between the CDS-bond deviation and the volatility in the CDS-bond market. Our findings are consistent across mature-market and emerging-market countries. Moreover, the evidence we uncover suggests that the practice of managing default risk of bonds via the use of CDS may increase the interest rate risk of the bond, which implies both wins and woes from the introduction of CDS, particularly for mature-market countries.

JEL classification: G15; G12; C53

Corresponding author: Leon Li, Waikato Management School, University of Waikato, School of Accounting, Finance and Economics, Hamilton, New Zealand, E-mail:

Funding source: Waikato Management School

Award Identifier / Grant number: 2019 Waikato Management School Contestable Researc


The research team would like to express our sincere appreciation to the anonymous reviewer for his/her very helpful comments and suggestions. Any remaining mistakes are our own.

  1. Author contribution: All the authors have accepted responsibility for the entire content of this submitted manuscript and approved submission.

  2. Research funding: 2019 WMS Contestable Research Funds, Waikato Management School, University of Waikato.

  3. Conflict of interest statement: The authors declare no conflicts of interest regarding this article.


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Supplementary Material

The online version of this article offers supplementary material (

Received: 2019-12-10
Revised: 2021-04-11
Accepted: 2021-04-14
Published Online: 2021-05-03

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