Capital Structure Models and Contingent Convertible Securities

Di Meng (), Adam Metzler and R. Mark Reesor
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Di Meng: Department of Mathematics, Wilfrid Laurier University, Waterloo, ON N2L 3C5, Canada
Adam Metzler: Department of Mathematics, Wilfrid Laurier University, Waterloo, ON N2L 3C5, Canada
R. Mark Reesor: Department of Mathematics, Wilfrid Laurier University, Waterloo, ON N2L 3C5, Canada

Risks, 2024, vol. 12, issue 3, 1-35

Abstract: We implemented a methodology to calibrate capital structure models for banks that have issued contingent convertible securities (CoCos). Typical studies involving capital structure model calibration focus on non-financial firms as they have lower leverage and no contingent convertible securities. From a theoretical perspective, we found that jumps in the asset value process were necessary to obtain a satisfactory fit to the market data. In practice, contingent capital conversion triggers are discretionary, and there is considerable uncertainty around when regulators are likely to enforce conversion. The market-implied conversion triggers we obtain indicate that the market expects regulators to enforce conversion while the issuing bank is a going concern, as opposed to a gone concern. This fact is presumably of interest to potential dealers, regulators, issuers, and investors.

Keywords: capital structure model; contingent convertible securities; discontinuous asset value process; calibration (search for similar items in EconPapers)
JEL-codes: C G0 G1 G2 G3 K2 M2 M4 (search for similar items in EconPapers)
Date: 2024
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