Funding liquidity, debt tenor structure, and creditor's belief: an exogenous dynamic debt run model

DOI10.1007/S11579-015-0144-6zbMATH Open1335.91096arXiv1209.3513OpenAlexW1968953731MaRDI QIDQ496578FDOQ496578

Authors: Gechun Liang, Eva Lütkebohmert, Wei Wei 

Publication date: 22 September 2015

Published in: Mathematics and Financial Economics (Search for Journal in Brave)

Abstract: We propose a unified structural credit risk model incorporating both insolvency and illiquidity risks, in order to investigate how a firm's default probability depends on the liquidity risk associated with its financing structure. We assume the firm finances its risky assets by mainly issuing short- and long-term debt. Short-term debt can have either a discrete or a more realistic staggered tenor structure. At rollover dates of short-term debt, creditors face a dynamic coordination problem. We show that a unique threshold strategy (i.e., a debt run barrier) exists for short-term creditors to decide when to withdraw their funding, and this strategy is closely related to the solution of a non-standard optimal stopping time problem with control constraints. We decompose the total credit risk into an insolvency component and an illiquidity component based on such an endogenous debt run barrier together with an exogenous insolvency barrier.

Full work available at URL: https://arxiv.org/abs/1209.3513

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zbMATH Keywords

first passage timeoptimal stopping timeliquidity riskdebt runstructural credit risk model

Mathematics Subject Classification ID

Credit risk (91G40) Stopping times; optimal stopping problems; gambling theory (60G40)

Cites Work

• Bank Runs, Deposit Insurance, and Liquidity
• Credit risk: Modelling, valuation and hedging
• A multiple-curve HJM model of interbank risk
• A modified structural model for credit risk
• CREDIT SPREADS, OPTIMAL CAPITAL STRUCTURE, AND IMPLIED VOLATILITY WITH ENDOGENOUS DEFAULT AND JUMP RISK
• Optimal capital structure and endogenous default
• Experimental evidence of bank runs as pure coordination failures
• A multiperiod bank run model for liquidity risk

Cited In (14)

• A multiperiod bank run model for liquidity risk
• On preferences related party transactions, financial anomalies and the willingness to repay debt based on structural equation
• Dynamic debt issuance with jumps
• Credit risk analysis with creditor's option to extend maturities
• When do creditors with heterogeneous beliefs agree to run?
• Dynkin games with Poisson random intervention times
• Dynamic Leveraging–Deleveraging Games
• Optimal switching at Poisson random intervention times
• The shadow costs of repos and bank liability structure
• Illiquidity component of credit risk -- the 2015 Lawrence R. Klein lecture
• A structural model of debt pricing with creditor-determined liquidation
• Stochastic control representations for penalized backward stochastic differential equations
• Liquidity backstops and dynamic debt runs
• Rollover risk and credit risk under time-varying margin

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