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A defaultable bond model with cyclical fluctuations in the spread process

Author

Listed:
  • Tarik Bazgour

    (Léonard de Vinci Pôle Universitaire)

  • Federico Platania

    (Institut Supérieur de Gestion)

Abstract

This paper proposes a defaultable bonds pricing model extending the traditional spread process definition. The posited model is able to incorporate any potential cyclical, non-linear, or long-term process not fully captured by the stochastic behavior of the spot rate and the instantaneous default rate process. Under this framework, we analyze the empirical ability of our model to capture the spread dynamics of three different Investment-grade US Corporate bonds indexes. Our findings show that when compared to the Benchmark, our model improves the empirical performance reducing the yield spread mispricing by 35%, 37%, and 29% for the High grade, Upper medium grade, and Lower medium grade index, respectively.

Suggested Citation

  • Tarik Bazgour & Federico Platania, 2022. "A defaultable bond model with cyclical fluctuations in the spread process," Annals of Operations Research, Springer, vol. 312(2), pages 647-672, May.
    • Handle: RePEc:spr:annopr:v:312:y:2022:i:2:d:10.1007_s10479-021-04471-9
    DOI: 10.1007/s10479-021-04471-9
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