Ericsson, Jan and Renault, Olivier. (2006) Liquidity and credit risk. JOURNAL OF FINANCE, 61 (5). pp. 2219-2250. ISSN 0022-1082

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Abstract

We develop a structural bond valuation model to simultaneously capture liquidity and credit risk. Our model implies that renegotiation in financial distress is influenced by the illiquidity of the market for distressed debt. As default becomes more likely, the components of bond yield spreads attributable to illiquidity increase. When we consider finite maturity debt, we find decreasing and convex term structures of liquidity spreads. Using bond price data spanning 15 years, we find evidence of a positive correlation between the illiquidity and default components of yield spreads as well as support for downward-sloping term structures of liquidity spreads.

Item Type:	Journal Article
Subjects:	H Social Sciences > HG Finance H Social Sciences > HC Economic History and Conditions
Journal or Publication Title:	JOURNAL OF FINANCE
Publisher:	BLACKWELL PUBLISHING
ISSN:	0022-1082
Date:	October 2006
Volume:	61
Number:	5
Number of Pages:	32
Page Range:	pp. 2219-2250
Identification Number:	10.1111/j.1540-6261.2006.01056.x
Publication Status:	Published
URI:	http://wrap.warwick.ac.uk/id/eprint/33056

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