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Default Clustering Risk Premium and its Cross-Market Asset Pricing Implications
This study examines the market-implied premiums for bearing default clustering risk by analyzing credit derivatives contracts on the CDX North American Investment Grade (CDX.NA.IG) portfolio between September 2005 and March 2021. Our approach involves constructing a time series of reference tranche rates exclusively derived by single-name CDS spreads. The default clustering risk premium (DCRP) is captured by comparing the original and reference tranche spreads, with the former exceeding the latter when investors require greater compensation for correlated defaults at the portfolio level. The ...