Structural Models of Corporate Bond Pricing: An Empirical Analysis
- Topics:
- Commercial Lending
- Tags:
- Analysis,
- Bond,
- Finance,
- Investment
- Source:
- Fisher College of Business
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Overview: This paper empirically tests five structural models of corporate bond pricing. It implements the models using a sample of 182 bond prices from firms with simple capital structures during the period 1986-1997. The conventional wisdom is that structural models do not generate spreads as high as those seen in the bond market, and true to expectations, one find that the predicted spreads in implementation of the Merton model are too low. However, most of the other structural models predict spreads that are too high on average. Nevertheless, accuracy is a problem, as the newer models tend to severely overstate the credit risk of firms with high leverage or volatility and yet suffer from a spread under prediction problem with safer bonds. The Leland and Toft model is an exception in that it over predicts spreads on most bonds, particularly those with high coupons. More accurate structural models must avoid features that increase the credit risk on the riskier bonds while scarcely affecting the spreads of the safest bonds.
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Format: PDF | Size: 404KB | Date: Apr 2003 | Pages: 50
