Is recovery risk priced?

Timo Schläfer and Marliese Uhrig-Homburg

Journal of Banking & Finance, 2014, vol. 40, issue C, 257-270

Abstract: Recovery risk to explain corporate debt premia has not received much attention so far, most likely due to the difficulties around decomposing the expected loss. We exploit the fact that differently-ranking debt instruments of the same issuer face identical default risk but different default-conditional recovery rates. This allows us to isolate implied recovery under the T-forward measure without any of the rigid assumptions employed by prior studies. We find a pronounced systematic component in recovery rates for which investors should receive a premium. Comparisons to physical realizations show that the premium is quite time-stable and similar for different debt seniorities.

Keywords: Credit risk; Recovery risk; Implied recovery rates; Risk premia (search for similar items in EconPapers)
JEL-codes: G13 (search for similar items in EconPapers)
Date: 2014
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (11)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:40:y:2014:i:c:p:257-270

DOI: 10.1016/j.jbankfin.2013.11.033

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