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Working Paper
Endogenous Option Pricing
We show that a structural model of firm decisions can produce very flexible implied volatility surfaces: upward and downward sloping, u-shaped. A calibrated version of the model is able to match many unconditional financial characteristics of the average option-able stock, and can help explain how, contrary to simple economic intuition, more valuable growth and contraction options are associated with a more negatively sloped implied volatility curve (i.e., a more negatively skewed implied distribution).
Working Paper
Debt Maturity and Commitment on Firm Policies
If firms can issue debt only at discrete dates, debt maturity is an effective device against the commitment problem on debt and investment policies. With shorter maturities, debt dynamics are less persistent and more valuable because upward leverage adjustments are faster and long-run leverage lower. Debt maturities that are relatively shorter than asset maturities increase marginal q, and reduce underinvestment. A decomposition of the credit spread consistent with equilibrium shows that the component due to the commitment problem on future debt issuances is sizeable when leverage and default ...
Working Paper
Debt Maturity and Commitment on Firm Policies
When firms can trade debt only at discrete dates, debt maturity becomes an effective tool to address the commitment problem related to debt and investment policies. In the absence of other market frictions, single-period debt restores first-best investment. With market freezes, underinvestment worsens the leverage ratchet effect, which in turn increases investment distortions for long debt maturities. A calibrated model shows that choosing the right maturity can reduce the cost of commitment problems and market frictions by up to 4% of firm value. A decomposition of the equilibrium credit ...