Modeling Municipal Yields With (and Without) Bond Insurance

Albert Chun, Ethan Namvar (), Xiaoxia Ye () and Fan Yu ()
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Ethan Namvar: University of California, Berkeley, Berkeley, California 94720
Xiaoxia Ye: University of Liverpool Management School, Liverpool L69 7ZH, United Kingdom
Fan Yu: Claremont McKenna College, Claremont, California 91711

Management Science, 2019, vol. 65, issue 8, 3694-3713

Abstract: We develop an intensity-based model of municipal yields, making simultaneous use of the credit default swap premiums of the insurers and both insured and uninsured municipal bond transactions. We estimate the model individually for 61 municipal issuers by exploiting the dramatic decline in credit quality of the bond insurers from July 2007 to June 2008, and decompose the municipal yield spread based on the estimated parameters. The decomposition reveals a dominant role of the liquidity component as well as interactions between liquidity and default similar to those modeled by Chen et al. [Chen H, Cui R, He Z, Milbradt K (2018) Quantifying liquidity and default risks of corporate bonds over the business cycle. Rev. Financial Stud. 31(3):852–897.] for corporate bonds. Toward the end of the sample period, our model also reproduces the “yield inversion” phenomenon documented in the literature.

Keywords: municipal bonds; bond insurance; monoline; default risk; liquidity risk; term structure modeling (search for similar items in EconPapers)
Date: 2019
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Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:inm:ormnsc:v:65:y:2019:i:8:p:3694-3713

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