A dynamic program for valuing corporate securities

8 years 1 months ago

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We design and implement a dynamic program (DP) for valuing corporate securities, seen as derivatives on a …rm’s assets, and computing the term structure of yield spreads and default probabilities. Our setting accommodates arbitrary corporate debts, multiple seniority classes, payouts, tax bene…ts, bankruptcy costs, and a reorganization process. This ‡exibility comes at the expense of a minor loss of e¢ ciency; the analytical approach proposed in the literature is exchanged here for a quasi-analytical approach based on dynamic programming coupled with …nite elements. We provide several theoretical properties of the debt- and equity-value functions. Finally, to assess our construction, we carry out a numerical investigation along with a complete sensitivity analysis. DP shows ‡exibility and e¢ ciency. Key words: Option theory, no-arbitrage pricing, structural models, corporate securities, corporate bonds, dynamic programming, …nite elements. 1

Mohamed A. Ayadi, Hatem Ben-Ameur, Tarek Fakhfakh

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