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Annual Review of Financial Economics

Volume 14, 2022

Decoding Default Risk: A Review of Modeling Approaches, Findings, and Estimation Methods

Abstract

Default risk permeates the behavior of corporate bond returns and spreads, credit default swap spreads, estimation of default probabilities, and loss in default. Pertinent to this review are salient empirical findings and implications of default process estimation from 1974 to 2021. Both structural and reduced-form models are covered. In structural models, default occurs if the value of assets falls below some threshold obligation. The reduced-form models involve assumptions about the default process combined with recovery in default. Default process estimation and measurements of default probability have improved by exploiting data on defaultable bonds, credit default swaps, tally of default realizations, and options on individual equities. Empirical investigations continue to address the relevance of stochastic asset volatility, jumps in asset values, and modeling of default boundary and firm leverage process.

Keyword(s): default, default intensity-based credit risk models, empirical facts in credit markets, JEL G10, JEL G12, JEL G13, JEL G21, JEL G22, JEL G23, JEL G28, model estimation, recovery in default, structural models
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/content/journals/10.1146/annurev-financial-111720-090709
2022-11-01
2024-05-12
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Decoding Default Risk: A Review of Modeling Approaches, Findings, and Estimation Methods
Annual Review of Financial Economics 14, 391 (2022); https://doi.org/10.1146/annurev-financial-111720-090709
/content/journals/10.1146/annurev-financial-111720-090709
/content/journals/10.1146/annurev-financial-111720-090709
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