A New Approach for Firm Value and Default Probability Estimation Beyond Merton Models

Computational Economics, Forthcoming

23 Pages Posted: 12 Dec 2007

See all articles by Dean Fantazzini

Dean Fantazzini

Moscow School of Economics, Moscow State University; National Research University Higher School of Economics

Maria Elena De Giuli

University of Pavia - Department of Political Economy and Quantitative Methods

Mario Maggi

University of Pavia - Department of Economics and Management; University of Pavia - Department of Economics and Management

Abstract

In this paper we present a new model to assess the firm value and the default probability by using a bivariate contingent claim analysis and copula theory. First we discuss an unfeasible case, given the current derivative market on corporate bonds, which involves univariate digital options to compute the risk neutral probabilities. We then discuss a feasible model, which considers risky interest rates, instead. Moreover, we develop in this framework a new methodology to extract default probabilities from stock prices, only, going beyond the standard KMV-Merton model. Besides, the non-observability of the Merton model's state variable requires numerical methods, but the results can be unstable with noisy risky data. We show how the null price can be used as a useful barrier to separate an operative firm from a defaulted one, and to estimate its default probability. We then present an empirical application with both operative and defaulted firms to show the advantages of our approach.

Keywords: Firm value, No arbitrage, Structural models, Bivariate option, Copula, Default Probability

JEL Classification: G12, G30, G32

Suggested Citation

Fantazzini, Dean and De Giuli, Maria Elena and Maggi, Mario, A New Approach for Firm Value and Default Probability Estimation Beyond Merton Models. Available at SSRN: https://ssrn.com/abstract=1070681

Dean Fantazzini (Contact Author)

Moscow School of Economics, Moscow State University ( email )

GSP-2, Leninskie Gory
Moscow, 119992
Russia
+7 495 5105256 (Phone)
+7 495 5105267 (Fax)

HOME PAGE: https://sites.google.com/site/deanfantazzini/

National Research University Higher School of Economics ( email )

Myasnitskaya street, 20
Moscow, Moscow 119017
Russia

HOME PAGE: http://www.hse.ru/org/persons/11532644

Maria Elena De Giuli

University of Pavia - Department of Political Economy and Quantitative Methods ( email )

27100 Pavia
Italy

Mario Maggi

University of Pavia - Department of Economics and Management ( email )

Via San Felice, 5
Pavia, PV 27100
Italy

HOME PAGE: http://economia.unipv.it/pagp/pagine_personali/maggma/moreinfo.htm

University of Pavia - Department of Economics and Management ( email )

Strada Nuova, 65
Pavia, 27100
Italy

HOME PAGE: http://economia.unipv.it/pagp/pagine_personali/maggma/moreinfo.htm

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