Determinants of the Dollar Value of Default Risk: A Put Option Perspective

Determinants of the Dollar Value of Default Risk: A Put Option Perspective This study uses the option valuation framework to identify andinvestigate the factors affecting the cross-sectional difference inindividual corporate bonds' default risk. The dollar value of defaultrisk (DVDR) is measured by subtracting the observed trading price of arisky corporate bond from a Cox-Ingersoll-Ross model value of acorresponding pseudo-default-free bond. From an option pricingperspective, DVDR can be modeled as the value of a put option on thefirm's risky assets. The DVDR of an individual investment-grade corporatebond is hypothesized to be related to the bond rating, time to maturity ofthe bond, size of the issuing firm, volatility of firm value, and dividendyield of the issuing firm. In the case of the first four factors, theempirical results are consistent with the predictions from a put optionperspective. There is a mixed relationship between DVDR and dividendyield, however, which provides a weaker support for the prediction of theoption valuation model. Such a mixed relationship documents the importantrole that dividend payments play in signaling a firm's future earnings andreducing overall agency costs. ["In particular, the formula can be usedto derive the discount that should be applied to a corporate bond becauseof the possibility of default." (Black and Scholes (1973), Journal of Political Economy, Abstract, p. 637.)] http://www.deepdyve.com/assets/images/DeepDyve-Logo-lg.png Review of Quantitative Finance and Accounting Springer Journals

Determinants of the Dollar Value of Default Risk: A Put Option Perspective

Loading next page...
 
/lp/springer_journal/determinants-of-the-dollar-value-of-default-risk-a-put-option-u3nHEUFpe7
Publisher
Kluwer Academic Publishers
Copyright
Copyright © 2001 by Kluwer Academic Publishers
Subject
Finance; Corporate Finance; Accounting/Auditing; Econometrics; Operation Research/Decision Theory
ISSN
0924-865X
eISSN
1573-7179
D.O.I.
10.1023/A:1011223008379
Publisher site
See Article on Publisher Site

Abstract

This study uses the option valuation framework to identify andinvestigate the factors affecting the cross-sectional difference inindividual corporate bonds' default risk. The dollar value of defaultrisk (DVDR) is measured by subtracting the observed trading price of arisky corporate bond from a Cox-Ingersoll-Ross model value of acorresponding pseudo-default-free bond. From an option pricingperspective, DVDR can be modeled as the value of a put option on thefirm's risky assets. The DVDR of an individual investment-grade corporatebond is hypothesized to be related to the bond rating, time to maturity ofthe bond, size of the issuing firm, volatility of firm value, and dividendyield of the issuing firm. In the case of the first four factors, theempirical results are consistent with the predictions from a put optionperspective. There is a mixed relationship between DVDR and dividendyield, however, which provides a weaker support for the prediction of theoption valuation model. Such a mixed relationship documents the importantrole that dividend payments play in signaling a firm's future earnings andreducing overall agency costs. ["In particular, the formula can be usedto derive the discount that should be applied to a corporate bond becauseof the possibility of default." (Black and Scholes (1973), Journal of Political Economy, Abstract, p. 637.)]

Journal

Review of Quantitative Finance and AccountingSpringer Journals

Published: Oct 3, 2004

References

You’re reading a free preview. Subscribe to read the entire article.


DeepDyve is your
personal research library

It’s your single place to instantly
discover and read the research
that matters to you.

Enjoy affordable access to
over 12 million articles from more than
10,000 peer-reviewed journals.

All for just $49/month

Explore the DeepDyve Library

Unlimited reading

Read as many articles as you need. Full articles with original layout, charts and figures. Read online, from anywhere.

Stay up to date

Keep up with your field with Personalized Recommendations and Follow Journals to get automatic updates.

Organize your research

It’s easy to organize your research with our built-in tools.

Your journals are on DeepDyve

Read from thousands of the leading scholarly journals from SpringerNature, Elsevier, Wiley-Blackwell, Oxford University Press and more.

All the latest content is available, no embargo periods.

See the journals in your area

DeepDyve Freelancer

DeepDyve Pro

Price
FREE
$49/month

$360/year
Save searches from
Google Scholar,
PubMed
Create lists to
organize your research
Export lists, citations
Read DeepDyve articles
Abstract access only
Unlimited access to over
18 million full-text articles
Print
20 pages/month
PDF Discount
20% off