The Valuation of Corporate Coupon Bonds

50 Pages Posted: 27 Nov 2018 Last revised: 16 Oct 2023

See all articles by Jens Hilscher

Jens Hilscher

University of California, Davis

Robert A. Jarrow

Cornell University - Samuel Curtis Johnson Graduate School of Management

Donald R. van Deventer

Kamakura Corporation

Date Written: October 7, 2023

Abstract

This paper proposes and estimates a tractable, arbitrage-free valuation model for corporate coupon bonds that includes a more realistic recovery rate process. Most existing studies use a recovery rate process that is misspecified because it includes recovery for coupons due after default. Misspecification errors from assuming recovery on all coupons can be substantial; they increase with recovery rates, coupons, maturity, and default probabilities. For a large sample of market transactions: (i) our model has lower pricing errors than one assuming recovery on all coupons, and (ii) the magnitude of our model's outperformance is linked to misspecification errors from assuming recovery on coupons.

Keywords: corporate bonds, default probabilities, credit spreads, recovery rates, illiquidity

JEL Classification: G12

Suggested Citation

Hilscher, Jens and Jarrow, Robert A. and van Deventer, Donald R., The Valuation of Corporate Coupon Bonds (October 7, 2023). Available at SSRN: https://ssrn.com/abstract=3277092 or http://dx.doi.org/10.2139/ssrn.3277092

Jens Hilscher (Contact Author)

University of California, Davis ( email )

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Robert A. Jarrow

Cornell University - Samuel Curtis Johnson Graduate School of Management ( email )

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Donald R. Van Deventer

Kamakura Corporation ( email )

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