Are Corporates' Target Leverage Ratios Time-Dependent?

17 Pages Posted: 25 Apr 2007

See all articles by Cho-Hoi Hui

Cho-Hoi Hui

Hong Kong Monetary Authority - Research Department

Chi-Fai Lo

The Chinese University of Hong Kong

M. X. Huang

Chinese University of Hong Kong - Department of Physics and Institute of Theoretical Physics

Abstract

This paper extends the stationary-leverage-ratio model to incorporate a time-dependent target leverage ratio. The theoretical hypothesis of the existence of a time-dependent target leverage ratio reflects the movement of a firm's initial target ratio toward a long-term target ratio over time. Using some simple scenarios about the time-dependence of the target leverage ratio, the numerical results show that the incorporation of the hypothesis into the stationary-leverage-ratio model is capable of producing term structures of probabilities of default that are consistent with some empirical findings. The results provide some evidences to support the hypothesis.

Keywords: Credit Risk Models, Credit Ratings, Default Probability

JEL Classification: G21, G28, G13

Suggested Citation

Hui, Cho-Hoi and Lo, Chi-Fai and Huang, Ming-Xi, Are Corporates' Target Leverage Ratios Time-Dependent?. International Review of Financial Analysis, Vol. 15, pp. 220-236, 2006. Available at SSRN: https://ssrn.com/abstract=982536

Cho-Hoi Hui (Contact Author)

Hong Kong Monetary Authority - Research Department ( email )

Hong Kong
China

Chi-Fai Lo

The Chinese University of Hong Kong ( email )

Department of Physics
Shatin, N.T., Hong Kong
China

Ming-Xi Huang

Chinese University of Hong Kong - Department of Physics and Institute of Theoretical Physics ( email )

Shatin, N.T.
Hong Kong
Hong Kong

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