The debt and equity linkage and the valuation of credit derivatives

By Sean C Keenan, Jorge R Sobehart and Terry L Benzschawel

This article was first published as a chapter in Credit Derivatives, by Risk Books.

In their seminal article, Modigliani and Miller (1958) presented a theory that became a cornerstone of modern finance. Their paper explained the indeterminacy of corporate capital structure under certain idealised conditions. Several of these conditions are simplifying assumptions that could easily be relaxed. But crucial to their analysis is the assumption of complete contingent claims markets. Under these con

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