On the Interest Rate Sensitivity of Corporate Securities
52 Pages Posted: 12 Sep 2013 Last revised: 17 Oct 2018
Date Written: October 7, 2018
We use contingent claim asset pricing and exploit capital structure priority to better understand the relation between corporate security returns and interest rate changes. We show theoretically and confirm empirically that the interest rate sensitivity, or duration, of a security within a firm’s capital structure is monotonically related to the priority of the security. The magnitude of this effect of priority on duration depends on the firm’s market leverage. These findings at the firm level have important implications for interpreting the time-varying correlations between the returns on government bonds and those on aggregate stock and debt markets.
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