J. Ericsson (Canada) and J. Reneby (Sweden)
Credit Risk, Bond Pricing, Liquidity
We implement a structural bond pricing frame work on a large panel of US industrial issues using an efficient maximum likelihood methodology. Although, like others before us, we underpredict yield spread lev els when using only stock market data in the estima tion, our errors are much less dispersed. In addition, we show that when our model underpredicts spreads, the errors are correlated with liquidity proxies, sug gesting that an underestimation of total yield spreads may be economically plausible. When we include bond price information in our estimation, our errors become similar in magnitude to those found in recent imple mentations of reduced form models.
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