Oct 3rd, 2014 10:30 until 11:50 AM
We study heterogeneity in the comovement of corporate bonds and equities, both
at the bond level and at the rm level. To formalize empirical predictions, we use
an extended Merton model to illustrate that, holding the actual maturity constant,
corporate bonds that are due late relative to the rest of the bonds in their issuers’
maturity structure should have stronger comovement with equities. In contrast, an
endogenous default model with equity pay-in suggests that a bond’s position in its
issuer’s maturity structure has little relation with the strength of the comovement.
In the data, we nd that bonds that are later in their issuers’ maturity structure
comove more strongly with equities, consistent with the prediction of the extended
Merton model. In addition, we nd that the comovement between bonds and equities
is stronger for rms with higher credit risk as proxied by higher book-to-market ratios
and lower distance-to-default even after controlling for ratings. Our results highlight
the important eects of bond and rm level characteristics on the relative returns of
corporate bonds and equities.