Default risk, Financial Management

Assignment Help:

Default risk is the risk that arises when the issuer is not able to satisfy the terms and conditions of the obligation with respect to timely payment of interest and repayment of the amount borrowed. If a default occurs, the investor does not lose the entire amount invested as he can recover a certain percentage of the investment. This is called recovery rate. The percentage of a population of bonds that is expected to default is called default rate. Given the default rate and the recovery rate, the estimated expected loss due to a default can be computed.

Default risk is associated with corporate bonds unlike treasury bonds since there is a risk of non-payment of principal and interests either partially or fully due to several factors.

The difference between the investor's expected rate of return and the actual rate of return offered is known as risk premium. This includes the risk associated with a particular bond depending on the likelihood of default either partially or fully. This risk premium depends on the issuer's financial position and fundamentals. Normally, credit rating agencies rate the companies  for their issues on the basis of certain factors like capital structure, leverage ratio, earnings ratio, current ratio, the performance of the particular industry, etc., by giving necessary weightages to evolve the rating for the companies. Rating agencies like S&P, Moody's, CRISIL, ICRA, etc., give credit ratings for the issuing company. Companies with higher rating will have lesser default possibility compared to the companies with lesser ratings.


Related Discussions:- Default risk

Define factor fx call or put option model price is function, List the argum...

List the arguments (variables) of which a FX call or put option model price is a function.  How does the call and put premium change with respect to a change in the arguments?

Explain that many u.s. firms simply do not hedge, Recent surveys of corpora...

Recent surveys of corporate exchange risk management practices point out that many U.S. firms simply do not hedge. How would you explain this result? Answer:  There can be severa

Explain compound value of an annuity, Q. Explain Compound Value of an Annui...

Q. Explain Compound Value of an Annuity? Compound Value of an Annuity: - Annuity demotes to the periodic flows of equal amounts. FV = A {(1+i)n - 1}/i Instance: - Mr. X i

What is usual approach of capital structure, Q. What is usual Approach of c...

Q. What is usual Approach of capital Structure? Ans. Traditional Approach: - The traditional approach establishes middle among the Net Income approach and the Net Operating Inc

What is the scope of ifrs 8, What is the Scope of IFRS 8 IFRS 8 applie...

What is the Scope of IFRS 8 IFRS 8 applies to organisations who: Equity or debt instruments are traded in a public market (stock market) Is in the process of obtai

Show the accountable plan, Q. Show the Accountable Plan? Accountable P...

Q. Show the Accountable Plan? Accountable Plan - An accountable plan is any reimbursement or other expense allowancearrangement of an employer which meets all of the subseque

What is the investment evaluation, What is the Investment evaluation I...

What is the Investment evaluation Investment evaluation the primary purpose of measuring the cost of capital is its use as a financial standard evaluating investment projects

Define major causes for the current account deficits, The United States has...

The United States has experienced continuous current account deficits as the early 1980s. What do you think are the major causes for the deficits? What would be the results of cont

Role depreciation play in calculating incremental cash flows, What role doe...

What role does depreciation play in calculating incremental cash flows? Depreciation expense is a tax deductible expense and hence influences cash flow by its effect on taxes.Dep

What are the material items are carried out, What are the Material items ar...

What are the Material items are carried out Material items would have an impact on: Audit tests carried out. For illustration compliance based testing (relying on contro

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd