Low Inflation: High Default Risk and High Equity Valuations

78 Pages Posted: 3 Dec 2018 Last revised: 6 Mar 2021

See all articles by Harjoat Singh Bhamra

Harjoat Singh Bhamra

Imperial College Business School

Christian Dorion

HEC Montreal

Alexandre Jeanneret

UNSW Business School

Michael Weber

University of Chicago - Finance; National Bureau of Economic Research (NBER)

Multiple version iconThere are 3 versions of this paper

Date Written: November 2018

Abstract

We develop an asset-pricing model with endogenous corporate policies that explains how inflation jointly impacts real asset prices and corporate default risk. Our model includes two empirically grounded nominal frictions: fixed nominal coupons and sticky profitability. Taken together, these two frictions result in higher real equity prices and credit spreads when inflation falls. An increase in inflation has opposite effects, but with smaller magnitudes. In the cross section, the model predicts the negative impact of inflation on real equity values is stronger for low leverage firms. We find empirical support for the model predictions.

Suggested Citation

Bhamra, Harjoat Singh and Dorion, Christian and Jeanneret, Alexandre and Weber, Michael, Low Inflation: High Default Risk and High Equity Valuations (November 2018). NBER Working Paper No. w25317, Available at SSRN: https://ssrn.com/abstract=3294920

Harjoat Singh Bhamra (Contact Author)

Imperial College Business School ( email )

Tanaka Building
Exhibition Rd
London, SW7 2AZ
United Kingdom

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

Christian Dorion

HEC Montreal ( email )

3000, Chemin de la Côte-Sainte-Catherine
Montreal, Quebec H2X 2L3
Canada
5143401522 (Phone)
5143405632 (Fax)

HOME PAGE: http://neumann.hec.ca/pages/christian.dorion/

Alexandre Jeanneret

UNSW Business School ( email )

Sydney, NSW 2052
Australia

Michael Weber

University of Chicago - Finance ( email )

5807 S. Woodlawn Avenue
Chicago, IL 60637
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
15
Abstract Views
271
PlumX Metrics