A Bankruptcy Risk Factor

62 Pages Posted: 6 Dec 2021 Last revised: 22 Jan 2022

Date Written: November 30, 2021


This paper introduces a factor based on an estimated probability of bankruptcy — a measure of the risk a typical investor will lose their investment, or the cost of insuring that investment. Using an underlying model of firm bankruptcy built as a sequence of two random forests, I demonstrate my bankruptcy risk factor has predictive power in equity, bond, option and credit default swap markets earning statistically significant monthly returns of 0.23%, 0.15%, 1.97% and 1.04%, respectively, in all four markets. In markets with existing common factors I find statistically significant alpha with respect to these factors.

Keywords: Anomaly Factor, Random Forest, Bankruptcy Risk, Cross-Section, Asset Pricing, Bonds, Options, Credit Default Swaps

JEL Classification: G11, G12, G32

Suggested Citation

Neumann, Jesse, A Bankruptcy Risk Factor (November 30, 2021). Available at SSRN: https://ssrn.com/abstract=3974750 or http://dx.doi.org/10.2139/ssrn.3974750

Jesse Neumann (Contact Author)

Rutgers University ( email )

New Brunswick, NJ
United States

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