A Direct Test of Agency Theories of Debt

52 Pages Posted: 20 Jun 2014

See all articles by Yilin Huang

Yilin Huang

Federal Reserve Banks - Federal Reserve Bank of Philadelphia

Taylor Nadauld

Brigham Young University

Date Written: June 18, 2014

Abstract

When a firm is facing default, equity holders have incentives to engage in asset substitution, underinvest, or directly transfer wealth. Few papers document investment distortions on account of debt-equity agency conflicts, only that the threat of distortions influence ex ante financing costs. A non-agency RMBS deal represents an entity that is highly leveraged where, ex ante, equity holders know they will face default. This provides an ideal laboratory for testing whether the threat of default creates any of the distortions predicted in theory. We estimate agency costs associated with direct wealth transfers to range between $.011 and $.025 per dollar.

Keywords: Agency Costs of Debt, Securitization

JEL Classification: G32, G28, G21

Suggested Citation

Huang, Yilin and Nadauld, Taylor, A Direct Test of Agency Theories of Debt (June 18, 2014). Available at SSRN: https://ssrn.com/abstract=2456347 or http://dx.doi.org/10.2139/ssrn.2456347

Yilin Huang

Federal Reserve Banks - Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States

Taylor Nadauld (Contact Author)

Brigham Young University ( email )

Provo, UT 84602
United States

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