Credit Risk, Debt Overhang, and the Life Cycle of Callable Bonds
Review of Finance, forthcoming
63 Pages Posted: 17 Dec 2018 Last revised: 19 Jan 2024
Date Written: December 20, 2023
Abstract
We show that callable bonds have both higher yields and lower market prices than matched non-callable bonds of the same issuer-time, reflecting the value of call features to issuers and investors. This "value of callability" as well as the inclusion and the exercise of call rights are jointly determined by issuer credit quality. Critically, our agency-based theoretical and empirical analyses show that callability reduces debt overhang in corporate mergers. Our results help explain the value and increasing prevalence of callable bonds in credit markets.
Keywords: Callable bonds, Credit risk, Debt overhang, Investment decisions.
JEL Classification: G32, G33, G21
Suggested Citation: Suggested Citation