Default and recovery risk dependencies in a simple credit risk model

Publisher:
Wiley-Blackwell
Publication Type:
Journal Article
Citation:
European Financial Management, 2011, 17 (1), pp. 120 - 144
Issue Date:
2011-01
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This paper provides evidence for the relationship between credit quality, recovery rate, and correlation. The paper finds that rating grade, rating shift, and macroeconomic factors provide a highly significant explanation for default risk and recovery risk of US bond issues. The empirical data suggest that default and recovery processes are highly correlated. Therefore, a joint approach is required for estimating time-varying default probabilities and recovery rates that are conditional on default. This paper develops and applies such a model
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