ACCOUNTING NOISE AND THE PRICING OF CoCos

Mike Derksen, Peter Spreij and Sweder van Wijnbergen
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Mike Derksen: Korteweg-de Vries Institute for Mathematics, University of Amsterdam, PO Box 94248, 1090GE Amsterdam, The Netherlands2Deep Blue Capital B.V., James Wattstraat 100-3, 1097 DM Amsterdam, The Netherlands
Peter Spreij: Korteweg-de Vries Institute for Mathematics, University of Amsterdam, PO Box 94248, 1090GE Amsterdam, The Netherlands3Institute for Mathematics, Astrophysics and Particle Physics, Radboud University, Heyendaalseweg 135, 6525AJ Nijmegen, The Netherlands

International Journal of Theoretical and Applied Finance (IJTAF), 2022, vol. 25, issue 07n08, 1-60

Abstract: Contingent Convertible bonds (CoCos) convert into equity or are written down in times of distress. Existing pricing models assume conversion triggers based on market prices assuming that markets observe all relevant information. We incorporate that markets receive information through noisy accounting reports only, distinguish between market and accounting values and incorporate that coupon payments are subject to a Maximum Distributable Amount limit. We examine the impact of CoCo design and accounting noise on prices. Most importantly, we discuss the capital structure decision, explain why nondilutive CoCos tend to be chosen and how these increase the bank’s risk-taking incentives.

Keywords: Contingent capital pricing; accounting noise; CoCo triggers; CoCo design; risk taking incentives; investment incentives (search for similar items in EconPapers)
Date: 2022
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Related works:
Working Paper: Accounting Noise and the Pricing of CoCos (2018)
Working Paper: Accounting Noise and the Pricing of Cocos (2018)
Working Paper: Accounting Noise and the Pricing of Cocos (2018)
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DOI: 10.1142/S0219024922500285

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