Performance and determinants of the Merton structural model: Evidence from hedging coefficients

Flavia Barsotti and Luca Del Viva

Journal of Banking & Finance, 2015, vol. 58, issue C, 95-111

Abstract: We empirically test the effectiveness of the Merton (1974) model in measuring the sensitivity of corporate bond returns to changes in equity value. We study the main variables that affect the performance of the model and relax the assumption of normally distributed rates of return. Results show that less than 6% of the bonds have a hedge ratio within 10% from the model predicted value. Volatility, time to maturity, size, distress, liquidity and information quality are found to be significant determinants of the efficacy of the model.

Keywords: Credit risk; Hedge ratios; Corporate bond spreads; Spread sensitivity; Distress; Variance Gamma; Normal Inverse Gaussian (search for similar items in EconPapers)
JEL-codes: G12 G13 (search for similar items in EconPapers)
Date: 2015
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jbfina:v:58:y:2015:i:c:p:95-111

DOI: 10.1016/j.jbankfin.2015.04.007

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