Decomposing Credit Spreads

32 Pages Posted: 19 May 2005

See all articles by Rohan Churm

Rohan Churm

Bank of England - Monetary Analysis

Nikolaos Panigirtzoglou

Queen Mary, University of London

Date Written: March 2005


This paper investigates the information contained in the yields of corporate debt securities using a structural credit risk model. As previous studies have found, credit risk is not the only factor that affects corporate yield spreads. The aim is to decompose credit spreads, using a structural model of credit risk, into credit and non-credit risk components. The contribution relative to the existing literature is the use of contemporaneous forward-looking information on equity risk premia and equity value uncertainty in a structural model. In particular, implied equity risk premia from a three-stage dividend discount model that incorporates analysts' long-term earnings forecasts are used, together with implied measures of equity value uncertainty from option prices. The paper examines the evolution of the different components of spreads across time as well as the effect of particular events. It also analyses the relationship between the derived components and other financial variables, such as swap spreads and the equity risk premium.

Keywords: Default, credit spreads, risk premia

JEL Classification: G12, G15

Suggested Citation

Churm, Rohan and Panigirtzoglou, Nikolaos, Decomposing Credit Spreads (March 2005). Available at SSRN: or

Rohan Churm (Contact Author)

Bank of England - Monetary Analysis ( email )

Threadneedle Street
London EC2R 8AH
United Kingdom

Nikolaos Panigirtzoglou

Queen Mary, University of London ( email )

Mile End Road
London, London E1 4NS
United Kingdom

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