Assessing Credit Risk of Companies with Mean-Reverting Leverage Ratios

C. F. Lo, T. C. Wong, C. H. Hui and M. X. Huang
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C. F. Lo: The Chinese University of Hong Kong, Hong Kong Institute for Monetary Research
T. C. Wong: Hong Kong Monetary Authority
C. H. Hui: Hong Kong Monetary Authority
M. X. Huang: University of Technology, Sydney

No 42008, Working Papers from Hong Kong Institute for Monetary Research

Abstract: Empirical findings and theoretical studies suggest that firms adjust towards time-varying target leverage ratios. This paper studies the performances of the default probabilities generated from two stationaryleverage models with time-dependent and constant target ratios respectively. The time-dependent model consistently performs better in terms of discriminatory power of differentiating firms' default risk and capability for predicting default rates over the period 1996 to 2006. The model provides appropriate measures of credit risk of firms and evidence to support the existence of a time-varying target leverage ratio.

Keywords: Leverage; Default probabilities; Credit risk (search for similar items in EconPapers)
JEL-codes: C60 G13 G32 (search for similar items in EconPapers)
Pages: 31 pages
Date: 2008-04
New Economics Papers: this item is included in nep-bec and nep-rmg
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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