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Callable Contingent Capital: Valuation and Default Risk

Author

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  • Weidong Tian

    (Department of Finance, University of North Carolina at Charlotte, Charlotte, North Carolina 28223)

Abstract

This paper proposes the use of contingent capital with a call provision, in which the insurer has an option to redeem the contingent capital at any time. I characterize in detail a unique dynamic equilibrium of common stock, subordinated contingent capital, and a senior standard bond under a simple yet sufficient and necessary condition that can be implemented easily. I further show that the issuance of callable contingent capital does not affect the default risk of an outstanding senior standard bond. As a result, callable contingent capital provides an alternative design for contingent capital using a prudential capital structure for a bank that is “too big to fail.” This paper was accepted by Jerome Detemple, finance

Suggested Citation

  • Weidong Tian, 2018. "Callable Contingent Capital: Valuation and Default Risk," Management Science, INFORMS, vol. 64(1), pages 112-130, January.
    • Handle: RePEc:inm:ormnsc:v:64:y:2018:i:1:p:112-130
    DOI: 10.1287/mnsc.2016.2573
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    References listed on IDEAS

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    Cited by:

    1. Zhang, Sijia & Xia, Xin & Gan, Liu, 2025. "Optimal conversion ratio of contingent capital under issuance constraints," International Review of Financial Analysis, Elsevier, vol. 100(C).
    2. Koziol, Christian & Roßmann, Philipp, 2022. "Contingent convertible bonds: Optimal call strategy and the impact of refinancing," Journal of Corporate Finance, Elsevier, vol. 77(C).

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