Over-Libor and Brazilian CDS: Wild Horses?

Abstract

The present study estimates the reactions to surprises in announcements of macroeconomic variables for two yield curves of the Brazilian market: the yield curve in foreign currency, the U.S. dollar, which is known in the jargon of the Brazilian market as the over-libor curve, and the Credit Default Swap (CDS) curve of the sovereign bonds from the Brazilian government. Our results partly contradict the anecdotal vision of the local market that these curves behave like two wild horses. The results indicate that over libor negatively reacts to positive surprises in Brazilian or U.S. indicators of activity and equally to surprises in Brazilian indicators of inflation. The CDS behaves in a similar manner for Brazilian indicators, yet more inconsistently for the U.S. indicators, reacting differently within the same class of indicators. Finally, we extend our analysis to evaluate the predictive capacity of the model outside of the sample and the economic value of the model in the investment decisions in the over-libor curve.