Credit Models Past and Present
Credit Models: Looking to the Future
Predicting Annual Default Rates and Implications for Market Prices
An Ensemble Model for Recovery Value in Default
The Corporate Bond Credit Risk Premium
The Credit Default Swap Risk Premium
The Municipal Build America Bond Risk Premium
Predicting Bank Defaults
Beating Credit Benchmarks
Hedging the Credit Risk Premium
Managing Pension Fund Liabilities
Credit Cycle-dependent Stochastic Credit Spreads and Rating Category Transitions
Managing Systemic Liquidity Risk: Systems and Early Warning Signals
Chapters 5 and 6 described methods for calculating the risk premiums and embedded leverage in corporate bond and CDS markets. In this chapter, similar methods will be used to provide insight into the compensation for credit risk and embedded leverage in the municipal Build America Bond (BAB) market. Motivation for this analysis is both to measure the credit risk premium in the municipal bonds as well as to determine if that information can be used to derive relative value trading strategies in BABs. BABs were chosen for this analysis because, unlike most other municipal bonds, they are taxable, thereby enabling one to analyse their yields using the same techniques that are typically applied to corporate bonds. Nevertheless, the approach is less straightforward than for cash and CDS markets in that there are no well-established methods for assigning probabilities of default to municipal bonds, reliably estimating their relative values, or any known attempts to measure municipal bond risk premiums.
The chapter will begin with a description of municipal bonds, BABs and the BAB market.