The Estimation of Default Risk with Market Data.

This paper presents a Gaussian reduced-form default risk model. The riskless rate follows a two-dimensional ARMA process. The mean-reverting default spread features a ratio involving the market value of the firm's assets. Under recurrent credit risk, bond prices are analytically derived. Using panels of Eurobond prices, the S&P and Moody's ratings look quite equivalent, and the fit improves as ratings fall. Although the market-to-book ratio looks like a good candidate state variable for the rest of the world except Japan, it does not bring additional information for the pricing of US corporate bonds.