Eres : Digital Library : Works

Paper eres2010_353:
IRRATIONAL BELIEF AND CREDIT SPREADS PUZZLE

id eres2010_353
authors Gao, Yuan; Gong, Pu; Bao, Helen
year 2010
title IRRATIONAL BELIEF AND CREDIT SPREADS PUZZLE
source 17th Annual European Real Estate Society Conference in Milan, Italy
summary In this paper, we extend the Merton's structured approach to incomplete market economy, in which investors may have irrational or distorted belief about the corporate's future cash flow. Our theoretical model implies irrational belief generates an additional risk. In detail, as distorted belief increases, the corporate values decreases, but the corporate value volatility and negative risk neutral skewness increase.Furthermore since risky corporate bonds are proportional to a short put on the corporate value, credit spreads widen. So irrational belief help to explain the credit spreads puzzle. Finally, we use empirical analysis to test our model results and find that the coefficient of distorted belief in the regressions for credit spreads, in control of many variables, still significant positive.
keywords Irrational belief, credit spreads puzzle, Subprime financial crisis
series ERES:conference
email yuangao.1982@gmail.com
discussion No discussions. Post discussion ...
ratings
session doctoral
last changed 2010/07/16 14:16
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