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A Certainty Equivalent Approach to Municipal Bond Default Risk Estimation

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  • Wu, Chunchi

Abstract

This paper extends the risk-neutrality default model of municipal bonds to consider the effect of risk aversion on the estimation of default probability. A model is proposed to separate the default risk assessment from the investor's risk aversion. Empirical results show that the risk-neutrality model consistently overestimates the default probability but that the magnitude of this overestimate is generally small and statistically insignificant.

Suggested Citation

  • Wu, Chunchi, 1991. "A Certainty Equivalent Approach to Municipal Bond Default Risk Estimation," Journal of Financial Research, Southern Finance Association;Southwestern Finance Association, vol. 14(3), pages 241-247, Fall.
  • Handle: RePEc:bla:jfnres:v:14:y:1991:i:3:p:241-47
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    Cited by:

    1. Junbo Wang & Chunchi Wu & Frank X. Zhang, 2005. "Liquidity, default, taxes and yields on municipal bonds," Finance and Economics Discussion Series 2005-35, Board of Governors of the Federal Reserve System (U.S.).
    2. Holian, Matthew & Joffe, Marc, 2013. "Assessing Municipal Bond Default Probabilities," MPRA Paper 46728, University Library of Munich, Germany.
    3. Merrick Jr., John J., 2001. "Crisis dynamics of implied default recovery ratios: Evidence from Russia and Argentina," Journal of Banking & Finance, Elsevier, vol. 25(10), pages 1921-1939, October.
    4. Mitchener, Kris James & Oosterlinck, Kim & Weidenmier, Marc D. & Haber, Stephen, 2015. "Victory or repudiation? Predicting winners in civil wars using international financial markets," Journal of Banking & Finance, Elsevier, vol. 60(C), pages 310-319.
    5. Wu, Chunchi & Yu, Chih-Hsien, 1996. "Risk aversion and the yield of corporate debt," Journal of Banking & Finance, Elsevier, vol. 20(2), pages 267-281, March.
    6. Liu, Sheen & Shi, Jian & Wang, Junbo & Wu, Chunchi, 2009. "The determinants of corporate bond yields," The Quarterly Review of Economics and Finance, Elsevier, vol. 49(1), pages 85-109, February.
    7. Wang, Junbo & Wu, Chunchi & Zhang, Frank X., 2008. "Liquidity, default, taxes, and yields on municipal bonds," Journal of Banking & Finance, Elsevier, vol. 32(6), pages 1133-1149, June.
    8. Racheva-Sarabian, Anna & Ryvkin, Dmitry & Semykina, Anastasia, 2015. "The default of special district financing: Evidence from California," Journal of Housing Economics, Elsevier, vol. 27(C), pages 37-48.
    9. Haber, Stephen H & Mitchener, Kris & Oosterlinck, Kim & Weidenmier, Marc, 2014. "Predicting Winners in Civil Wars," CEPR Discussion Papers 10109, C.E.P.R. Discussion Papers.

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