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Bond Pricing with Default Risk

Listed author(s):
  • Hsu, Jason C.
  • Saa-Requejo, Jesus
  • Santa-Clara, Pedro

We price corporate debt from a structural model of ï¬ rm default. We assume that the capital market brings about efficient ï¬ rm default when the continuation value of the ï¬ rm falls below the value it would have after bankruptcy restructuring. This characterization of default makes the model more tractable and parsimonious than the existing structural models. The model can be applied in conjunction with a broad range of default-free interest rate models to price corporate bonds. Closed-form corporate bond prices are derived for various parametric examples. The term structures of yield spreads and durations predicted by our model are consistent with the empirical literature. We illustrate the empirical performance of the model by pricing selected corporate bonds with varied credit ratings.

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Paper provided by Anderson Graduate School of Management, UCLA in its series University of California at Los Angeles, Anderson Graduate School of Management with number qt5bb1j39q.

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Date of creation: 01 Sep 2003
Handle: RePEc:cdl:anderf:qt5bb1j39q
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Web page: http://www.escholarship.org/repec/anderson_fin/

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  15. Robert A. Jarrow & Stuart M. Turnbull, 2008. "Pricing Derivatives on Financial Securities Subject to Credit Risk," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 17, pages 377-409 World Scientific Publishing Co. Pte. Ltd..
  16. Sarig, Oded & Warga, Arthur, 1989. " Some Empirical Estimates of the Risk Structure of Interest Rates," Journal of Finance, American Finance Association, vol. 44(5), pages 1351-1360, December.
  17. Mella-Barral, Pierre, 1999. "The Dynamics of Default and Debt Reorganization," Review of Financial Studies, Society for Financial Studies, vol. 12(3), pages 535-578.
  18. Ramaswamy, Krishna & Sundaresan, Suresh M., 1986. "The valuation of floating-rate instruments : Theory and evidence," Journal of Financial Economics, Elsevier, vol. 17(2), pages 251-272, December.
  19. Longstaff, Francis A & Schwartz, Eduardo S, 1995. " A Simple Approach to Valuing Risky Fixed and Floating Rate Debt," Journal of Finance, American Finance Association, vol. 50(3), pages 789-819, July.
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