FRIC/Finance Seminar with Konstantin Milbradt, MIT
FRIC Center for Financial Friction and the Department of Finance are proud to announce the upcoming seminar with Konstantin Milbradt, MIT.
Konstantin Milbradt will present:
Quantifying Liquidity and Default Risks of Corporate Bonds over the Business Cycle
Hui Chen, MIT Sloan and NBER
Rui Cui, Chicago Booth
Zhiguo He, Chicago Booth and NBER
Konstantin Milbradt, MIT Sloan
This paper introduces time-varying liquidity frictions into a structural model of corporate bond pricing. We feature a combination of procyclical liquidity conditions and countercyclical macroeconomic fundamentals in characterizing the risks of corporate bonds over the business cycle. When calibrated to the historical moments of default probabilities and empirical measures of secondary market liquidity, our model matches the observed credit spreads of corporate bonds across high-grade to high-yield ratings, as well as measures of non-default components including Bond-CDS spreads and bid-ask spreads. In addition, we propose a novel structural decomposition scheme that captures the interaction between liquidity frictions and corporate default decisions via the rollover channel. We use this framework to quantitatively evaluate the effects of liquidity-provision policies during crisis time. Our structural approach identifies important economic forces that were previously overlooked by empirical researches in corporate bonds.