The impact of mergers & acquisitions on CDS, equity and options markets

Abstract

Credit Default Swaps have been the latest financial innovation of the century and during the financial crisis they became the fastest growing derivative product. Their valuation provides information on the credit risk of a corporate entity. The purpose of this study is to examine the impact of mergers and acquisitions on the CDS market and examine the relationship of the market with the equity and options market through the news of M&As announcements and the announcement of their completion or withdrawal. We conduct event study methodology on M&A events that took place in Europe or the United States from 2005 until 2018. The overall findings showed that the CDS and the equity market react before the news announcement of the M&A. The acquirer presents negative cumulative abnormal stock returns and positive abnormal CDS spread changes. The target exhibits the opposite results in a larger magnitude for both markets. On either the date of deal completion or deal cancellation, the acquirer did not show significant results. On the contrary, the target presented negative CARs only in the equity market after either deal outcome. In general, there was a lead lag relationship from equity market to CDS market and the options market did not exhibit any significant results. Insider trading was more often observed in the equity market, however during the financial crisis period, the credit default swap market exposed more information, significant results prior to the announcement and the lead-lag relationship between equity and credit default swap market was reversed.