Default Risk and Equity Returns: AComparison of the Bank-Based German andthe U.S. Financial System

We address the question whether the impact of default risk on equity returns dependson the financial system firms operate in. We compare results from asset pricing testsfor the German and the U.S. stock markets, where Germany is the prime-example fora bank-based financial system. We find that a higher firm default risk systematicallyleads to lower returns in both capital markets. This contradicts results for the U.S. byVassalou/Xing (2004), but we show that their default risk factor looses its explanatorypower if one includes a default risk factor measured as a factor mimicking portfolio, aswe do....