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Design of a self-adaptive model for leverage

Author

Listed:
  • Segal, Maxime
  • Ólafsson, Sverrir

Abstract

In this research letter, we introduce a version of a CoCo bond to construct a new model for dynamically adjusting a firm’s leverage. The resulting leverage dynamic allows keeping the issuer’s leverage ratio within some predetermined boundaries where the likelihood of default on outstanding liabilities remains small and, at the same time, ensures the firm’s financial efficiency through a reissuance feature, when the leverage reaches too low levels. Different control actions are studied in this scope, since none requires external intervention, they act as a ‘watchdog’, ensuing in a self-adaptive debt-to-assets ratio. The model exhibits interesting mean-reverting properties and is notably suitable for the analysis of a real firm’s behavior.

Suggested Citation

  • Segal, Maxime & Ólafsson, Sverrir, 2023. "Design of a self-adaptive model for leverage," Finance Research Letters, Elsevier, vol. 54(C).
    • Handle: RePEc:eee:finlet:v:54:y:2023:i:c:s1544612323000958
    DOI: 10.1016/j.frl.2023.103721
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    References listed on IDEAS

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    More about this item

    Keywords

    Contingent convertible; Hybrid securities; Leverage; Probability of default; Capital structure of the firm;
    All these keywords.

    JEL classification:

    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G28 - Financial Economics - - Financial Institutions and Services - - - Government Policy and Regulation
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages

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