Incomplete Information, Debt Issuance, and the Term Structure of Credit Spreads

62 Pages Posted: 27 Nov 2019 Last revised: 17 Mar 2022

See all articles by Luca Benzoni

Luca Benzoni

Federal Reserve Bank of Chicago - Research Department

Lorenzo Garlappi

University of British Columbia (UBC) - Sauder School of Business

Robert S. Goldstein

University of Minnesota - Twin Cities - Carlson School of Management; National Bureau of Economic Research (NBER)

Multiple version iconThere are 2 versions of this paper

Date Written: March 15, 2022

Abstract

We derive a firm's debt issuance policy when managers have an informational advantage over creditors and face debt restructuring costs. In our model, regardless of how poor their private signal is, managers of firms that can access the credit market avoid default by issuing new debt to service existing debt. Therefore, only bonds of firms that have exhausted their ability to borrow are subject to jump-to-default risk due to incomplete information and, in turn, command a jump-to-default risk premium. We document that our model captures many salient features of the corporate bond market.

Keywords: Credit spreads, Capital structure, Corporate Default, Debt, Jumps to Default, Investments

JEL Classification: G12, G32, G33

Suggested Citation

Benzoni, Luca and Garlappi, Lorenzo and Goldstein, Robert S., Incomplete Information, Debt Issuance, and the Term Structure of Credit Spreads (March 15, 2022). FRB of Chicago Working Paper No. WP-2019-8, Available at SSRN: https://ssrn.com/abstract=3493630 or http://dx.doi.org/10.21033/wp-2019-08

Luca Benzoni (Contact Author)

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Lorenzo Garlappi

University of British Columbia (UBC) - Sauder School of Business ( email )

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Robert S. Goldstein

University of Minnesota - Twin Cities - Carlson School of Management ( email )

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National Bureau of Economic Research (NBER)

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