Firm Policies and the Cross-Section of CDS Spreads
|Speaker:||Andrea Gamba, Warwick Business School|
|Date:||Friday 26 October 2012|
|Location:||Matrix LT (Building One)|
We study the relation between Credit Default Swaps (CDS) spreads and corporate policies in the context of a structural model of firm's default that accounts for firm heterogeneity, and real and financial frictions. First, we estimate and test the model using simulated method of moments. We find that the model cannot be rejected by the data and successfully matches the cross section of empirically observed CDS spreads, while addressing the credit spread puzzle. Second, we study how CDS spreads are related to observable characteristics of the firms in the simulated economy and in the observed data. We find that, controlling for financial leverage, CDS spreads are positively related to operating leverage, and negatively related to growth opportunities. Consistent with the idea that growth options reduce the credit riskiness of firms, we find that investments are negatively related to changes in CDS spreads.