Do banks use credit default swaps to hedge or speculate? An agency theoretic perspective
by Roshanthi Dias; Nicholas A. Mroczkowski
International Journal of Critical Accounting (IJCA), Vol. 4, No. 3, 2012

Abstract: The global financial crisis (GFC) has drawn attention to the increased risk taking of financial institutions, in particular risk taking by banks. Some observers have also suggested that credit default swaps (CDS) have not only contributed to the GFC but to some extent have also exacerbated it. Moreover, it would seem that in many cases the main motivation for banks in using CDS is for trading purposes (Fitch Ratings, 2007, 2010). Given that banks are among the most important sources of finance, and are fraught with extensive public exposure through deposits, risk taking in banks is an important consideration for both regulators and the general public. This paper explores an agency theoretic perspective in analysing the potential motivations for risk taking vs. risk aversion decisions within banks. The paper asserts that the use of CDS for speculative/trading purpose indicates a risk taking motive, whereas the use of CDS for hedging purposes suggests that the overriding motivation is risk aversion. We argue that these dichotomous themes can explain banking strategy in the use of CDS and in turn can also explain the rationale for the phenomenal growth in CDS up until the onset of the GFC.

Online publication date: Sat, 16-Jun-2012

The full text of this article is only available to individual subscribers or to users at subscribing institutions.

 
Existing subscribers:
Go to Inderscience Online Journals to access the Full Text of this article.

Pay per view:
If you are not a subscriber and you just want to read the full contents of this article, buy online access here.

Complimentary Subscribers, Editors or Members of the Editorial Board of the International Journal of Critical Accounting (IJCA):
Login with your Inderscience username and password:

    Username:        Password:         

Forgotten your password?


Want to subscribe?
A subscription gives you complete access to all articles in the current issue, as well as to all articles in the previous three years (where applicable). See our Orders page to subscribe.

If you still need assistance, please email subs@inderscience.com