Credit default swaps (CDS) bet on the default probability of individual companies and nations. The sovereign CDS of Japan gives us the best estimation of the probability that Japan will default in the next 5 years:
Certainly on an Up-Swing
At a current spread of 70 bps and assuming a 40% recovery rate , that implies that Japan has default probability of 6% in the next 5 years. This compares to 32bps or a 2.7% default probability for the United States and 65.7 or 5.5% default probability for the United Kingdom. This is the first glimpse at sovereign default probabilities from me and I think it will probably be the most interesting arena in the next few years as governments try to deal with their burgeoning debt.
If you do not understand the relationship between spreads and default rates, please read my lengthy educational piece.
