The determinants of recovery rates in the Nordic high yield bond market : an empirical study of the price development and market-based recovery of defaulted high yield bonds

Abstract

In this thesis, we analyse market-based recovery rates on 78 defaulted high yield bonds in the Nordic market, during the time-period from May 2014 to September 2016. First, we estimate market-based recovery rates, defined as the average synthetic bond price from the default event date to 90 days after the event. Second, we analyse the bond price development in a time window of 90 days pre-default to 90 days after each individual default event. In general, our results show a decreasing price path throughout the time window with no substantial price reaction at the default event date. In contrast to bankruptcy and non-payment events, we find that distressed exchange events show an increasing price path after the default event. Additionally, we find that secured bonds trade at a stable premium compared to unsecured bonds throughout the time window. Third, we determine the effects of a comprehensive set of variables on recovery rates. We are able to explain 55.3 per cent of the cross-sectional variation in recovery rates in our best model. These results reveal that bond characteristics such as outstanding amount and bond covenants are important determinants of the recovery rate. Furthermore, we note interesting economic effects for the net debt/EBITDA measure, a balance sheet ratio motivated by credit risk models. Macroeconomic variables play a lesser role in explaining the variation in recovery rates. Finally, we analyse the liquidity in 42 of the 78 defaulted bonds during the same time window. In general, the average trading volume increases towards a peek at the default event day. Although the amount traded diminishes, trading remains high the following 45 days. After this point, there are virtually no trading activity.