In today’s blog, we look at 103 weeks of CDS trade volume data since the week ended July 16, 2010 through June 29, 2012 for 1,112 reference names. We find minimal “end user” trade volume for the overwhelming majority of those reference names.
An earlier blog summarized the volume through December 30, 2011:
van Deventer, Donald R. “CDS Trading Volume for 1,090 Reference Names,” Kamakura blog, www.kamakuraco.com, January 9, 2012.
In this blog, we update the earlier analysis for the 103 weeks beginning with the week ended July 16, 2010 and ending June 29, 2012. We make use of the degree to which trading in single name credit default swaps was trading between two dealers as defined by the Depository Trust & Clearing Corporation. Earlier analysis showed that, for 77 weeks beginning with the week ended July 16, 2010 through December 30, 2011, on average 81.68% of the “live” single name credit default swaps in the DTCC trade warehouse were trades between two dealers. In this blog we use the recent percentage of dealer-dealer trades for the week ended September 7, 2012: 76.00%. The definition of dealer is that used by DTCC and documented on www.dtcc.com.
In this blog, we analyze CDS trading volume for the 1,112 reference names for which CDS trades were reported by DTCC during the 103 week period ended June 29, 2012. The weekly trade information is from the Section IV reports from DTCC. The data is described this way in the DTCC document “Explanation of Trade Information Warehouse Data” (May, 2011):
“Section IV (Weekly Transaction Activity) provides weekly activity where market participants were engaging in market risk transfer activity. The transaction types include new trades between two parties, a termination of an existing transaction, or the assignment of an existing transaction to a third party. Section IV excludes transactions which did not result in a change in the market risk position of the market participants, and are not market activity. For example, central counterparty clearing, and portfolio compression both terminate existing transactions and re-book new transactions or amend existing transactions. These transactions still maintain the same risk profile and consequently are not included as ‘market risk transfer activity.’”
Our emphasis is not on gross trading volume. As mentioned above, dealer-dealer volume is 76.00% in the single name credit default swap market and it would be nearly costless for dealers to inflate gross trading volume by trading among themselves. Instead, we focus on “end user” trading where at least one of the parties to a trade is not a dealer. Accordingly, we make the following adjustments to the weekly number of trades reported by DTCC for each reference name:
- We divide each weekly number of trades by 5 to convert volume to an average daily volume for that week
- From that gross daily average number of trades, we classify 76.00% of trades as “dealer-dealer” trades, using the average “dealer-dealer” share of trades in the DTCC trade warehouse during the 103 week period studied.
- The remaining 24.00% is classified as daily average “non-dealer” volume, the focus of the reporting below.
Daily Non-Dealer Trading Volume for 1,112 Reference Names
Before reporting on the 1,112 reference names in the DTCC warehouse, it is important to note a very important fact. Kamakura Risk Information Services’ default probability service produces daily default probabilities on 31,102 public firms around the world, including 5,271 in the United States. The DTCC weekly reports were designed to report the top 1,000 reference names ranked by daily trading volume. In none of the 103 weeks, however, were there as many as 1,000 reference names reported by DTCC. In essence, the weekly reports contain every reference name in which there was non-dealer trading volume in the DTCC. For all other reference names, then, trading volume was zero. This means that almost 30,000 of the public firms in KRIS had zero credit default swap trading volume over the entire 103 week period studied. We now turn to the 1,112 reference names for which there was at least 1 credit default swap trade during the 103 week period.
We first analyzed daily average non-dealer CDS trading volume by calculating the daily average, as described above, for all 1,112 reference names for the entire 103 week period. The distribution of the reference names by non-dealer daily average trading volume contains some very surprising results:
Among the surprising conclusions are these facts:
- 68.7% of the reference names had 1 or fewer non-dealer contracts traded per day.
- 88.7% of reference names had 2 or fewer non-dealer contracts traded per day.
- 98.1% of reference names had 4 or fewer non-dealer contracts traded per day.
- Only 14 reference names averaged more than 5 non-dealer contracts traded per day.
- Only 3 reference names averaged more than 10 non-dealer contracts traded per day.
These trading volumes are miniscule to say the least, and it is astonishing that financial journalists have not made the appropriate disclaimers when quoting “CDS prices” (many of which are quotes, not trades) for specific reference names.
In order to better understand the data, we next analyzed each week of data for all 1,112 reference names. In aggregate, there should be 103 x 1,112 = 114,536 “reference name-weeks” of data reported, but there was no data reported on 22,984 occasions because there were no trades in that week for that reference name. Dividing these 22,984 observations by 1,112 reference names shows that, on average over the 103 week period, there were 21 weeks for each reference name in which there were zero CDS trades. The daily average non-dealer trade volumes for these 114,536 observations have the following distribution:
Again, this analysis allows us to draw some more surprising conclusions about all weekly trading in single name CDS for all 1,112 reference names, a total of 114,536 observations:
- 20.07% of the observations showed zero non-dealer daily average CDS trading
- 71.90% of the observations showed less than 1 daily average non-dealer CDS contract traded
- 86.74% of the observations showed less than 2 daily average non-dealer CDS contracts traded
- 99.37% of the observations showed less than 6 daily average non-dealer CDS contracts traded
- There were only 5 observations of the 114,536 where more than 45 daily average non-dealer CDS contracts traded
Kamakura’s analysis includes non-dealer trading volume for all 103 weeks for all 1,112 names.
After reviewing the non-dealer trading volume reference name by reference name, we repeat the warning from our January 4, 2012 blog: a sophisticated observer should assume that both traded CDS spreads and quoted spreads are highly likely to have been affected by collusion. Any other assumption could be hazardous to your wallet.
Donald R. van Deventer
Honolulu, September 25, 2012