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Journal of Financial Intermediation Vol. 21 No. 1 2012

Information asymmetry and bank regulation: Can the spread of debt contracts be explained by recovery rates?

Wenchien Liu1; Peter Miu2; Yuanchen Chang1; Bogie Ozdemir3,4,5

1 National Chengchi University · 2 McMaster University · 3 BMO Financial Group, First Canadian Place, 100 King Street West, 20th floor, Toronto, Ont., Canada M5X 1A1 · 4 Standard & Poor’s, 130 King Street West, Suite 1100, Toronto, Ont., Canada M5X 1E5 · 5 Sun Life Financial Group, Sun Life Center, 150 King Street West, Toronto, Ont., Canada M5H 1J9

Abstract

We investigate whether the spread of corporate debt contacts can be explained by their ultimate recovery rates. Using the actual realized recovery rates of defaulted debt instruments issued in the US from 1962 to 2007, we find that recovery rate is reflected in the spread at issuance, and that this relationship has become more significant since commercial banks were allowed to underwrite corporate securities. Our further investigation indicates that the enhanced informativeness of recovery rate can be attributed to the lowering of information asymmetry of individual firms. Besides, the relation between the spread at issuance and the recovery rate is stronger for weak corporate governance and non-investment grade issuers. Our conclusions are found to be robust to endogeneity issues, potentially omitted variables and alternative model specifications.

DOI
10.1016/j.jfi.2011.07.001
Volume
21
Issue
1
Pages
123-150
Language
en
Sources
bibtex:phds-export.bib openalex crossref

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