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Defeasance of Control Rights

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  • Carsten Bienz

    ()

  • Antoine Faure-Grimaud
  • Zsuzsanna Fluck

    ()

Abstract

We analyse one frequent clause in bonds, covenant defeasance. Covenant defeasance allows the issuer to remove the bond's covenants by placing the remaining payments with a trustee in escrow to be paid out on schedule. We provide theoretical justification for this option and show empirically that it allows inclusion of more covenants in bond issues. We highlight characteristics that make issuers likely to add a defeasance clause. In line with the model's prediction, the empirical analysis documents 13-24 basis points yield reduction for defeasible bonds - annual saving of about $1m, or $11m over the life of the average bond.

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File URL: http://www.lse.ac.uk/fmg/workingPapers/discussionPapers/DP679_2011_Defeasance.pdf
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Bibliographic Info

Paper provided by Financial Markets Group in its series FMG Discussion Papers with number dp679.

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Date of creation: May 2011
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Handle: RePEc:fmg:fmgdps:dp679

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Web page: http://www.lse.ac.uk/fmg/

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  1. Campbell, John & Taksler, Glen, 2003. "Equity Volatility and Corporate Bond Yields," Scholarly Articles 3153307, Harvard University Department of Economics.
  2. Georg Noldeke & Klaus M. Schmidt, 1995. "Option Contracts and Renegotiation: A Solution to the Hold-Up Problem," RAND Journal of Economics, The RAND Corporation, vol. 26(2), pages 163-179, Summer.
  3. Sudheer Chava & Michael R. Roberts, 2008. "How Does Financing Impact Investment? The Role of Debt Covenants," Journal of Finance, American Finance Association, vol. 63(5), pages 2085-2121, October.
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