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Modelling the Evolution of Credit Spreads in the United States

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  • Stuart M. Turnbull
  • Jun Yang
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    Abstract

    The authors use Jarrow and Turnbull's (1995) reduced-form methodology to model the evolution of the term structure of interest rates in the United States for different credit classes and different industries. The authors also estimate a liquidity function for each credit class and industry. Using data from individual firms, the authors estimate the probability of default under the natural measure and compare it with the estimated default frequencies produced by KMV.

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    File URL: http://www.bankofcanada.ca/wp-content/uploads/2010/02/wp04-45.pdf
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    Bibliographic Info

    Paper provided by Bank of Canada in its series Working Papers with number 04-45.

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    Length: 58 pages
    Date of creation: 2004
    Date of revision:
    Handle: RePEc:bca:bocawp:04-45

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    Related research

    Keywords: Financial markets; Market structure and pricing;

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    References

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    1. Cooper, Ian A & Mello, Antonio S, 1991. " The Default Risk of Swaps," Journal of Finance, American Finance Association, vol. 46(2), pages 597-620, June.
    2. Leland, Hayne E, 1994. " Corporate Debt Value, Bond Covenants, and Optimal Capital Structure," Journal of Finance, American Finance Association, vol. 49(4), pages 1213-52, September.
    3. Longstaff, Francis A & Schwartz, Eduardo S, 1995. " A Simple Approach to Valuing Risky Fixed and Floating Rate Debt," Journal of Finance, American Finance Association, vol. 50(3), pages 789-819, July.
    4. Pearson, Neil D & Sun, Tong-Sheng, 1994. " Exploiting the Conditional Density in Estimating the Term Structure: An Application to the Cox, Ingersoll, and Ross Model," Journal of Finance, American Finance Association, vol. 49(4), pages 1279-1304, September.
    5. Maria Vassalou & Yuhang Xing, 2004. "Default Risk in Equity Returns," Journal of Finance, American Finance Association, vol. 59(2), pages 831-868, 04.
    6. Merton, Robert C, 1974. "On the Pricing of Corporate Debt: The Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 29(2), pages 449-70, May.
    7. Sundaresan, S. & Rameswamy, K. & Kim, I.J., 1992. "The Valuation of Corporate Fixed Income Securities," Papers 92-38, Columbia - Graduate School of Business.
    8. Chunsheng Zhou, 1997. "A jump-diffusion approach to modeling credit risk and valuing defaultable securities," Finance and Economics Discussion Series 1997-15, Board of Governors of the Federal Reserve System (U.S.).
    9. Tarun Chordia & Asani Sarkar & Avanidhar Subrahmanyam, 2003. "An empirical analysis of stock and bond market liquidity," Staff Reports 164, Federal Reserve Bank of New York.
    10. Black, Fischer & Scholes, Myron S, 1973. "The Pricing of Options and Corporate Liabilities," Journal of Political Economy, University of Chicago Press, vol. 81(3), pages 637-54, May-June.
    11. Gregory R. Duffee, 1998. "The Relation Between Treasury Yields and Corporate Bond Yield Spreads," Journal of Finance, American Finance Association, vol. 53(6), pages 2225-2241, December.
    12. Duffie, Darrell & Lando, David, 2001. "Term Structures of Credit Spreads with Incomplete Accounting Information," Econometrica, Econometric Society, vol. 69(3), pages 633-64, May.
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