Credit spreads express how markets evaluate the riskiness of corporate bonds compared to
risk-free investments. Since credit spreads have been highly volatile especially during the
last decade it is important for academics and practitioners alike to understand the dynamic
interdependencies between credit spreads and their determinants. Based on a sample of European
corporate bonds and different macroeconomic variables the author analyzes the determinants of
credit spreads during the period of 1999 to 2009. With a macro-finance term structure model he
shows that the European corporate bond market is largely integrated with some remaining
segmentation. Furthermore panel regressions yield that declining liquidity leads to a
significant widening of credit spreads especially during the recent financial crisis. Finally
he demonstrates based on a cointegration analysis that a long-term relationship exists between
credit spreads and their determinants and that credit spreads were significantly overpriced
after the collapse of Lehman Brothers but have almost returned to equilibrium towards the end
of 2009.
