Do Firms Hedge in Order to Avoid Financial Distress Costs? New Empirical Evidence Using Bank Data

Posted: 13 Feb 2018 Last revised: 12 May 2020

See all articles by Lutz Hahnenstein

Lutz Hahnenstein

Ampega Asset Management GmbH

Gerrit Köchling

University of Dortmund

Peter N. Posch

TU Dortmund University

Date Written: November 8, 2018

Abstract

We present a new approach to test the financial distress costs (FDC) theory of corporate hedging empirically. We estimate the ex ante expected FDC, which serve as a starting point to construct further explanatory variables in an equilibrium setting, as a fraction of the value of an asset-or-nothing put option on the firm’s assets. Using single-contract data of the derivatives’ use of 189 German middle-market companies that stems from a major bank as well as Basel II default probabilities and historical accounting information, we are able to explain a significant share of the observed cross-sectional differences in hedge ratios.

Keywords: Corporate Hedging, Bankruptcy costs, Financial Distress, Derivatives

JEL Classification: G2, G32, G33, D81

Suggested Citation

Hahnenstein, Lutz and Köchling, Gerrit and Posch, Peter N., Do Firms Hedge in Order to Avoid Financial Distress Costs? New Empirical Evidence Using Bank Data (November 8, 2018). Available at SSRN: https://ssrn.com/abstract=3116760 or http://dx.doi.org/10.2139/ssrn.3116760

Lutz Hahnenstein

Ampega Asset Management GmbH ( email )

Charles-de-Gaulle-Platz 1
Cologne, 50679
Germany

HOME PAGE: http://www.talanx.com/

Gerrit Köchling (Contact Author)

University of Dortmund ( email )

Emil-Figge-Straße 50
Dortmund, D-44221
United States

Peter N. Posch

TU Dortmund University ( email )

Otto Hahn Str. 6
Dortmund, 44227
Germany

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