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Leverage Expectations and Bond Credit Spreads
Flannery, Mark J. Nikolova, Stanislava Öztekin, Özde
Flannery, Mark J.
Nikolova, Stanislava
Öztekin, Özde
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Abstract
In an efficient market, spreads will reflect both the issuer’s current risk and investors’
expectations about how that risk might change over time. Collin-Dufresne and Goldstein
(2001) show analytically that a firm’s expected future leverage importantly influences the
spread on its bonds. We use capital structure theory to construct proxies for investors’
expectations about future leverage changes and find that these significantly affect bond
yields, above and beyond the effect of contemporaneous leverage. Expectations under the
trade-off, pecking order, and credit-rating theories of capital structure all receive empirical
support, suggesting that investors view them as complementary when pricing corporate
bonds.
Description
This is the publisher's version, also available electronically from: http://dx.doi.org/10.1017/S0022109012000300.
Date
2012-08-04
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Cambridge University Press
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Oztekin, Ozde. (2012) Leverage Expectations and Bond Credit Spreads. Journal of Financial and Quantitative Analysis. http://dx.doi.org/10.1017/S0022109012000300