The Information Value of Distress

90 Pages Posted: 16 Jun 2017

See all articles by Christian Hilpert

Christian Hilpert

Sun Yat-Sen University (SYSU) - Lingnan (University) College

Stefan Hirth

Aarhus University; Danish Finance Institute

Alexander Szimayer

University of Hamburg - Faculty of Economics and Business Administration

Date Written: July 9, 2020

Abstract

We propose a novel framework for investigating learning dynamics on a competitive debt market. Observing a firm’s survival of apparently distressed periods, the market eliminates asset value estimates that are too low to be consistent with the observed survival. Therefore, the firm's cost of borrowing becomes lower for given financials, which in turn leads to longer survival. Eventually, the expected default threshold persistently undercuts the true default threshold, leading to an underestimation of the firm's default risk. In a specific example calibrated to market data, the credit spread decreases by more than 30%.

Keywords: Asymmetric Information, Learning Dynamics, Strategic Interaction, Quantitative Debt Models

JEL Classification: G24, G33, D83

Suggested Citation

Hilpert, Christian and Hirth, Stefan and Szimayer, Alexander, The Information Value of Distress (July 9, 2020). Available at SSRN: https://ssrn.com/abstract=2986850 or http://dx.doi.org/10.2139/ssrn.2986850

Christian Hilpert (Contact Author)

Sun Yat-Sen University (SYSU) - Lingnan (University) College ( email )

Guangzhou
China

Stefan Hirth

Aarhus University ( email )

Fuglesangs Alle 4
Aarus, 8210
Denmark

HOME PAGE: http://hirth.dk

Danish Finance Institute ( email )

Alexander Szimayer

University of Hamburg - Faculty of Economics and Business Administration ( email )

Von-Melle-Park 5
Hamburg, 20146
Germany

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