Book-to-Market, Mispricing, and the Cross-Section of Corporate Bond Returns

Abstract

Controlling for numerous attributes tied to default and priced asset risk, including yield, credit spread, bond rating, and maturity, we find that a corporate bond’s book value divided by its market price strongly predicts its return. Bonds with the 20% highest “bond book-to-market ratios” outperform their lowest quintile counterparts by 3%-4% per year, other things equal. The rapid decay in the ratio’s predictive efficacy with delay, the wide scope of the ratio’s efficacy across the bond-type spectrum, and the insufficient ability of factor risk to account for the anomaly rejects the thesis that the corporate bond market is perfectly informationally efficient.

Keywords: Credit Risk, Corporate Bonds, Book-to-Market, Market Efficiency, Transaction Costs, Point-in-Time

JEL Classification: G11, G12, G14