Credit Risk and the Term Structure of Lease Rates: A Reduced Form Approach |
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| Authors: | Brent W Ambrose Yildiray Yildirim |
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| Institution: | (1) The Pennsylvania State University, University Park, State College, PA 16801, USA;(2) Syracuse University, Syracuse, NY, USA |
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| Abstract: | Previous research either assumes default free leases or leases subject to default risk using a structural approach. However,
structural credit risk models suffer from a common criticism that the firm’s asset value process is unobservable. We develop
a reduced form credit risk model for leases that avoids making assumptions regarding unobservable asset valuation processes.
Furthermore, we assume a correlated market and credit risk that provides us with a simple analytic formula for valuing defaultable
lease contracts. Numerical analysis reveals that tenant credit risk can have a substantial impact on the term structure of
leases. Finally, we use the model to demonstrate the implied lease term structure for a set of retail and financial firms
in the Fall of 2000.
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| Keywords: | Leasing valuation Credit risk Reduced form model |
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