The Distress Anomaly is Deeper than you Think: Evidence from Stocks and Bonds

68 Pages Posted: 17 Nov 2020 Last revised: 30 Aug 2021

See all articles by Doron Avramov

Doron Avramov

Interdisciplinary Center (IDC) Herzliyah

Tarun Chordia

Emory University - Department of Finance

Gergana Jostova

George Washington University - Department of Finance

Alexander Philipov

George Mason University - Department of Finance

Date Written: September 30, 2020

Abstract

The distress anomaly reflects the abnormally low returns of high credit risk stocks during financial distress. Evidence from stocks and corporate bonds reinforces the anomaly and challenges rationales based on shareholders' ability to extract value from bondholders, time-varying betas, lottery-type preferences, biased earnings expectations, and limits-to-arbitrage. Moreover, mispricing of distressed stocks and bonds is associated with excess investment and excess external financing. Potential real distortions are materially understated when assessed based only on equity mispricing. We emphasize the important role of corporate bonds in dissecting the distress anomaly, and show that the anomaly is an unresolved puzzle.

Keywords: Financial distress, anomalies, credit risk, distress puzzle, stocks, bonds

JEL Classification: G12, G14

Suggested Citation

Avramov, Doron and Chordia, Tarun and Jostova, Gergana and Philipov, Alexander, The Distress Anomaly is Deeper than you Think: Evidence from Stocks and Bonds (September 30, 2020). Available at SSRN: https://ssrn.com/abstract=3702508 or http://dx.doi.org/10.2139/ssrn.3702508

Doron Avramov

Interdisciplinary Center (IDC) Herzliyah ( email )

P.O. Box 167
Herzliya, 46150
Israel

HOME PAGE: http://faculty.idc.ac.il/davramov/

Tarun Chordia

Emory University - Department of Finance ( email )

Atlanta, GA 30322-2710
United States
404-727-1620 (Phone)
404-727-5238 (Fax)

Gergana Jostova (Contact Author)

George Washington University - Department of Finance ( email )

2201 G St NW
Funger Hall, Suite 501
Washington, DC 20052
United States
202-994-7478 (Phone)

HOME PAGE: http://business.gwu.edu/gergana-jostova

Alexander Philipov

George Mason University - Department of Finance ( email )

Fairfax, VA 22030
United States

HOME PAGE: http://mason.gmu.edu/~aphilipo

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