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Recovery rates: Uncertainty certainly matters

Paolo Gambetti, Geneviève Gauthier and Frédéric Vrins

Journal of Banking & Finance, 2019, vol. 106, issue C, 371-383

Abstract: Previous studies identify default rate as the main systematic determinant of bond recovery rates. We revisit this paradigm by investigating the impact of another factor, economic uncertainty. Based on a wide sample of American default issues and relying on beta regression models, well-suited for the bounded, heteroskedastic and skewed sample of recovery rates, we analyze the determinants of recovery rate distributions. We find economic uncertainty to be of paramount importance, as it proves to be the most important systematic determinant of recovery rate distributions, significant for both their mean and dispersion. By contrast, default rate remains a key determinant of the dispersion of these distributions, but not for their means. Considering this evidence is critical to the sound implementation of stochastic recovery rate models used by financial institutions for the computation of regulatory capital.

Keywords: Recovery rate; Loss given default; Corporate bond; Credit risk; Uncertainty (search for similar items in EconPapers)
JEL-codes: G21 G28 G33 (search for similar items in EconPapers)
Date: 2019
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