PT  - JOURNAL ARTICLE
AU  - Karan Bhanot
TI  - Pricing Corporate Bonds with Rating-Based Covenants
AID  - 10.3905/jfi.2003.319339
DP  - 2003 Mar 31
TA  - The Journal of Fixed Income
PG  - 57--64
VI  - 12
IP  - 4
4099  - https://pm-research.com/content/12/4/57.short
4100  - https://pm-research.com/content/12/4/57.full
AB  - A corporate bond indenture often includes covenants that allow bondholders to take specific actions (e.g., force prepayment or reorganization) if certain specific conditions are violated. A typical covenant is triggered by a downgrade in credit rating. This article provides a simple framework for the valuation of a corporate bond with a rating-based covenant. Basic assumptions that are consistent with empirical evidence are that a downgrade in credit rating is accompanied by more volatility in assets, and that corporate reorganization after a rating change results in a change in payments to equityholders and other securityholders. The model may be used to compare risky bonds with covenants and bonds without convenants.