An empirical analysis of bond recovery rates: exploring a structural view of default

Daniel M. Covitz and Song Han
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Daniel M. Covitz: https://www.federalreserve.gov/econres/daniel-m-covitz.htm

No 2005-10, Finance and Economics Discussion Series from Board of Governors of the Federal Reserve System (U.S.)

Abstract: A frictionless, structural view of default has the unrealistic implication that recovery rates on bonds, measured at default, should be close to 100 percent. This suggests that standard \"frictions\" such as default delays, corporate-valuation jumps, and bankruptcy costs may be important drivers of recovery rates. A structural view also suggests the existence of nonlinearities in the empirical relationship between recovery rates and their determinants. We explore these implications empirically and find direct evidence of jumps, and also evidence of the predicted nonlinearities. In particular, recovery rates increase as economic conditions improve from low levels, but decrease as economic conditions become robust. This suggests that improving economic conditions tend to boost firm values, but firms may tend to default during particularly robust times only when they have experienced large, negative shocks.

Keywords: Bonds; Default (Finance); Risk management (search for similar items in EconPapers)
Date: 2004
New Economics Papers: this item is included in nep-fin and nep-rmg
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Citations: View citations in EconPapers (15)

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