Incomplete Information, Debt Issuance, and the Term Structure of Credit Spreads

Luca Benzoni, Lorenzo Garlappi () and Robert Goldstein ()
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Lorenzo Garlappi: Sauder School of Business, University of British Columbia, Vancouver, British Columbia V6T 1Z2, Canada
Robert Goldstein: Carlson School of Management, University of Minnesota, Minneapolis, Minnesota 55455; National Bureau of Economic Research, Cambridge, Massachusetts 02138

Management Science, 2023, vol. 69, issue 7, 4331-4352

Abstract: We derive a firm’s debt issuance policy when managers have an informational advantage over creditors and face debt restructuring costs. In our model, regardless of how poor their private signal is, managers of firms that can access the credit market avoid default by issuing new debt to service existing debt. Therefore, only bonds of firms that have exhausted their ability to borrow are subject to jump-to-default risk because of incomplete information and, in turn, command a jump-to-default risk premium. We document that our model captures many salient features of the corporate bond market.

Keywords: bond pricing; credit spreads; jumps to default (search for similar items in EconPapers)
Date: 2023
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Citations: View citations in EconPapers (1)

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