Country Insurance Using Financial Instruments

By Luca A Ricci, Marcos d Chamon, Yuanyan S Zhang

July 1, 2011

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Luca A Ricci, Marcos d Chamon, and Yuanyan S Zhang. Country Insurance Using Financial Instruments, (USA: International Monetary Fund, 2011) accessed December 3, 2024

Disclaimer: This Working Paper should not be reported as representing the views of the IMF.The views expressed in this Working Paper are those of the author(s) and do not necessarily represent those of the IMF or IMF policy. Working Papers describe research in progress by the author(s) and are published to elicit comments and to further debate

Summary

The availability of financial instruments related to indices that track global financial conditions and risk appetite can potentially offer countries alternative options to insure against external shocks. This paper shows that while these instruments can explain much of the in-sample variation in borrowing spreads, this fails to materialize in hedging strategies that work well out-of-sample during tranquil times. However, positions on instruments such as those tracking the US High Yield Spread, the VIX, and especially other emerging market CDS spreads can substantially offset adverse movements in own spreads during times of systemic crises. Moreover, high risk countries seem to gain more, as their underlying weaknesses makes them more vulnerable to external shocks. Overall, the limited value in tranquil times, coupled with political economy arguments and innovation costs could justify the limited interest for this type of hedging in practice

Subject: Emerging and frontier financial markets, Financial institutions, Financial instruments, Financial markets, Financial regulation and supervision, Financial services, Hedging, Options, Yield curve

Keywords: Africa, CDX index, Contagion, Country insurance, EMBI spread, Emerging and frontier financial markets, Financial innovation, Global, Government bond, Hedge ratio, Hedging, Hedging performance, Hedging strategy, Interest rate, Options, Sudden stop, Systemic risks, WP, Yield curve

Publication Details

Pages:

35
Volume:

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DOI:

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Issue:

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Series:

Working Paper No. 2011/169
Stock No:

WPIEA2011169
ISBN:

9781462315321
ISSN:

1018-5941

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