Reduced-form valuation of callable corporate bonds: Theory and evidence

Robert Jarrow (), Haitao Li, Sheen Liu and Chunchi Wu

Journal of Financial Economics, 2010, vol. 95, issue 2, 227-248

Abstract: We develop a reduced-form approach for valuing callable corporate bonds by characterizing the call probability via an intensity process. Asymmetric information and market frictions justify the existence of a call-arrival intensity from the market's perspective. Our approach both extends the reduced-form model of Duffie and Singleton (1999) for defaultable bonds to callable bonds and captures some important differences between call and default decisions. A comprehensive empirical analysis of callable bonds using both our model and the more traditional American option approach for valuing callable bonds shows that the reduced-form model fits callable bond prices well and that it outperforms the traditional approach both in- and out-of-sample.

Keywords: Callable; bond; Reduced-form; model; Affine; models (search for similar items in EconPapers)
Date: 2010
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Citations: View citations in EconPapers (12)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jfinec:v:95:y:2010:i:2:p:227-248

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