Why Corporate Bonds May Disappoint: Disappointment Aversion and the Credit Spread Puzzle

63 Pages Posted: 17 Mar 2014 Last revised: 9 Jul 2019

See all articles by Stefanos Delikouras

Stefanos Delikouras

University of Miami - Department of Finance

Date Written: September 15, 2018


I propose a novel consumption-based asset pricing model with disappointment averse investors to address the credit spread puzzle. In the post-war sample, periods of high default rates and low recovery rates coincide with periods of much worse than expected macroeconomic conditions (disappointment events). The disappointment model can generate realistic credit spreads because investors penalize defaults more heavily during these disappointment periods than during normal times. Further, disappointment aversion is able to match key moments for credit spreads, the equity premium, and the risk-free rate using risk and disappointment aversion parameters that are consistent with experimental evidence at the micro-level. By applying disappointment theory to corporate bond pricing, I am also able to disentangle disappointment aversion from traditional risk aversion, while showing that the two cannot be separated if the stock market is the only test asset.

Keywords: consumption-based asset pricing, credit spread puzzle, disappointment aversion, disappointment events, equity premia, risk-free rate

JEL Classification: D51, D53, D81, D91, E21, E44, G11, G12, G33

Suggested Citation

Delikouras, Stefanos, Why Corporate Bonds May Disappoint: Disappointment Aversion and the Credit Spread Puzzle (September 15, 2018). Available at SSRN: https://ssrn.com/abstract=2409747 or http://dx.doi.org/10.2139/ssrn.2409747

Stefanos Delikouras (Contact Author)

University of Miami - Department of Finance ( email )

P.O. Box 248094
Coral Gables, FL 33124-6552
United States

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