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Default Risk in Corporate Yield Spreads |
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| Authors: | Georges Dionne Geneviève Gauthier Khemais Hammami Mathieu Maurice Jean-Guy Simonato |
| Institution: | 1. Georges Dionne is a Professor of Finance at HEC Montréal, Montréal, Québec, Canada.;2. Geneviève Gauthier is a Professor of Management Science at HEC Montréal, Montréal, Québec, Canada.;3. Khemais Hammami is a Financial Analyst at Caisse de Dépôt et Placement du Québec, Montreal, Québec, Canada.;4. Mathieu Maurice is a Financial Analyst at Caisse de Dépôt et Placement du Québec, Montréal, Québec, Canada.;5. Jean-Guy Simonato is a Professor of Finance at HEC Montréal, Montréal, Québec, Canada. |
| Abstract: | An important research question examined in the credit risk literature focuses on the proportion of corporate yield spreads attributed to default risk. This topic is reexamined in light of the different issues associated with the computation of default probabilities obtained from historical default data. We find that the estimated default risk proportion in corporate yield spreads is sensitive to the ex ante estimated term structure of default probabilities used as inputs. This proportion can become a large fraction of the spread when sensitivity analyses are made with respect to the period over which the probabilities are estimated and the recovery rates. |
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