Pricing Defaultable Coupon Bonds Under a Jump-Diffusion Process

Abstract

This article employs a structural approach to analyze term structures of credit risk and yield spreads for corporate debt when a firm's asset value follows a jump-diffusion process. The authors show several significant implications of the jump process for credit spreads by extending two generalized models. If they do not take systematic jump risk into consideration, theoretical models tend to underestimate credit spreads. Taxes also have significant effects. Interestingly, the model implies that a change in the federal tax rate may be a factor in the earlier default of low-grade bonds.