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The Agency Credit Spread

53 Pages Posted: 1 Jan 2014 Last revised: 3 Sep 2017

Andrea Gamba

University of Warwick - Finance Group

Mamen Aranda

University of Navarra - Business

Alessio Saretto

University of Texas at Dallas - School of Management - Department of Finance & Managerial Economics

Date Written: August 29, 2017

Abstract

Lack of shareholders’ commitment about debt and investment policies leads to an increase in the firm’s credit spread, which we refer to as the agency credit spread. We study this effect in a dynamic model of investment and financing, which features long- term debt and allows for several possible distortions of the optimal policy, including debt claim dilution, underinvestment, and asset stripping. We structurally estimate the model and find the average agency credit spread to be about 53 basis points, or equivalently 30% of the overall credit spread. We also find that the shareholders’ incentive to deviate from debt policies aimed at maximizing the value of the firm, the “leverage ratchet effect,” is relatively more important than underinvestment in transferring wealth from debt to equity.

Keywords: corporate credit risk, credit spread, structural models, debt-equity agency conflicts

JEL Classification: G12, G31, G32, E22

Suggested Citation

Gamba, Andrea and Aranda, Mamen and Saretto, Alessio, The Agency Credit Spread (August 29, 2017). Available at SSRN: https://ssrn.com/abstract=2373423 or http://dx.doi.org/10.2139/ssrn.2373423

Andrea Gamba (Contact Author)

University of Warwick - Finance Group ( email )

Scarman Road
Coventry, CV4 7AL
Great Britain
+44 (0)24 765 24 542 (Phone)
+44 (0)24 765 23 779 (Fax)

Carmen Maria Aranda León

University of Navarra - Business ( email )

Edificio Bibliotecas-Este
Pamplona, 31080
Spain

Alessio Saretto

University of Texas at Dallas - School of Management - Department of Finance & Managerial Economics ( email )

800 Campbell Road
SM 31
Richardson, TX 75080
United States
972-883-5907 (Phone)

HOME PAGE: http://www.utdallas.edu/~axs125732

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