Evaluating Corporate Credit Risks in Emerging Markets

Corporate leverage among emerging market firms went up considerably after the Global financial crisis (GFC) of 2007-09. We investigate how the increased emerging market corporate leverage in the post-GFC period (2010-15) impacted the underlying credit risk, compared to pre-GFC and GFC periods. Using firm-level credit risk, financial, and balance sheet data for 350 firms in 23 emerging markets during 2002-2015, we find that high leverage significantly increases corporate credit default swap (CDS) spreads only in the post-GFC period, and the incremental effect is mainly evident among risky firms, i.e., those with high leverage and idiosyncratic volatility. In contrast, GFC period (2007-09) emerging market CDS spreads are mainly driven by global market risk factors. The post-GFC corporate vulnerability is mitigated for high growth prospect firms, and those domiciled in countries with high net capital inflows and superior governance. While high leverage impacts aggregate corporate vulnerability, there is no evidence that it increases sovereign credit risk. Our paper contributes to the recent literature on the potential sources of default risk in emerging markets.