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The Slope of the Credit Yield Curve for SpeculativeGrade Issuers

By Jean Helwege and Christopher M. Turner

Abstract

Many theoretical bond pricing models predict that the credit yield curve facing risky bond issuers is downward sloping. Previous empirical research (Sarig and Warga (1989) and Fons (1994)) supports these models. Our study examines sets of bonds issued by the same firm with equal priority in the liability structure, but with different maturities, thus holding credit quality constant. We find, counter to prior research, that risky bonds typically have upward-sloping credit yield curves. Moreover, when we combine our matched sets of bonds (no longer controlling credit quality), the estimated slope is negative, indicating a sample selection bias problem associated with maturity. The Slope of the Credit Yield Curve for Speculative-Grade Issuers Using option analysis, Merton (1974) shows that corporate bond spreads can either increase or decrease with maturity, depending on the risk of the firm: high-grade corporate issuers face upward-sloping credit yield curves while speculative-grade firms = credit yield curves are downward sloping or hump-shaped (i.e., mostly downward sloping). More recent theoretica

Year: 1999
OAI identifier: oai:CiteSeerX.psu:10.1.1.353.3041
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