On the Pricing of Corporate Debt: The Risk Structure of Interest Rates

Merton, Robert C.

doi:10.2307/2978814

Cited by 4,620 publications

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“…The natural starting point for analyzing CDS determinants lies in the structural models based on Merton (1974). So far, most of the literature empirically testing such models use proxies for the embedded firm-specific elements of the model, mainly the leverage ratio and asset volatility.…”

Section: First Developmentsmentioning

confidence: 99%

“…The second category, introduced by Merton (1974), is based on the traditional Black and Scholes (1973) option pricing theory to model the value of a firm's equity and debt. Starting from Modigliani and Miller (1958), thereby assuming that the value of a firm is unaffected by its capital structure (composed of equity and debt in this case), a firm's default is deemed to happen when the market value of its total asset falls below a certain threshold, defined by the nominal value of its outstanding debt at maturity.…”

Section: Theoretical Backgroundmentioning

confidence: 99%

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mentioning

confidence: 99%

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Unveiling Sovereign Effects in European Banks CDS Spreads Variations

Peters

Pirotte

2014

SSRN Journal

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Starting from the structural model developed by Merton (1974) and the derived notion of distance-to-default, we study the determinants of credit default swap (CDS) spreads for a sample of European banks over a period from January 2006 to December 2011. In particular, we test variables that are specific to the banking industry and look at the possible interaction with CDS spreads for the related sovereigns. We confirm findings from the literature review regarding the low significance of the structural model and its breakdown in times of stress. We confirm the importance of macro-economic components such as the general level of interest rates and the general state of the economy, particularly in times of stress. We find that before the crisis period the micro-and macro-components are generally predominant in the determination of CDS spread variations while the influence of sovereigns' CDS become more important when entering further into the crisis period. Interestingly, southern European countries are the first to become significant at the start of the crisis. Progressively, all CDS countries become increasingly significant, overweigh all other explanatory variables and remain so even after the crisis period, thereby suggesting the focused attention of market participants for the sovereign dimension.Keywords: Credit default swaps, CDS spreads, structural model, distance to default, banking debt, sovereign debt. AbstractStarting from the structural model developed by Merton (1974) and the derived notion of distance-to-default, we study the determinants of credit default swap (CDS) spreads for a sample of European banks over a period from January 2006 to December 2011. In particular, we test variables that are specific to the banking industry and look at the possible interaction with CDS spreads for the related sovereigns. We confirm findings from the literature review regarding the low significance of the structural model and its breakdown in times of stress. We confirm the importance of macro-economic components such as the general level of interest rates and the general state of the economy, particularly in times of stress. We find that before the crisis period the micro-and macro-components are generally predominant in the determination of CDS spread variations while the influence of sovereigns' CDS become more important when entering further into the crisis period. Interestingly, southern European countries are the first to become significant at the start of the crisis. Progressively, all CDS countries become increasingly significant, overweigh all other explanatory variables and remain so even after the crisis period, thereby suggesting the focused attention of market participants for the sovereign dimension.

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Section: First Developmentsmentioning

confidence: 99%

Section: Theoretical Backgroundmentioning

confidence: 99%

“…

…”

mentioning

confidence: 99%

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Unveiling Sovereign Effects in European Banks CDS Spreads Variations

Peters

Pirotte

2014

SSRN Journal

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“…For D (4) , the additional parameter B affects its price differently. As A is lower, each bond price converges to 80.12 which is derived from the framework of Merton [10] with the same parameters. (1) with the same parameters, as α is closer to 0.…”

Section: Numerical Examplesmentioning

confidence: 99%

“…The approach was initiated by Merton [10] and Black & Scholes [3]. In Merton's model, the default occurs if, at the maturity of the bond, the firm value is less than the amount of the firm's debt.…”

Section: Introductionmentioning

confidence: 99%

On the Pricing of Defaultable Bonds Using the Framework of Barrier Options

Ishizaka

Takaoka

2003

Asia-Pacific Finan Markets

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In the framework of the structural approach of bond pricing, we extend the Fujita-Ishizaka model by considering more realistic payoffs. The payoff to the bondholder at time of default, provided that default occurs prior to maturity, depends on the firm value at time of default. We also find the new measure with the advantage to calculate the value of bond and its financial interpretation. In addition, we present some numerical exmaples.

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The Black–Scholes Formula and Its Applications in Finance

Kijima¹,

Muromachi²

2005

Encyclopedia of Statistical Sciences

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This chapter overviews a continuous‐time model for securities market and its applications in finance. Self‐financing and replicating portfolios play key roles for the pricing of derivative securities. The Black–Scholes model is explained in detail, and valuation of exotic options, interest‐rate derivatives, corporate bonds and real options is also discussed as applications of the Black–Scholes model.

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On the Pricing of Corporate Debt: The Risk Structure of Interest Rates

Cited by 4,620 publications

References 2 publications

Unveiling Sovereign Effects in European Banks CDS Spreads Variations

Unveiling Sovereign Effects in European Banks CDS Spreads Variations

On the Pricing of Defaultable Bonds Using the Framework of Barrier Options

The Black–Scholes Formula and Its Applications in Finance

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