Journal of Risk Model Validation

Does using time-varying target leverage ratios in structural credit risk models improve their accuracy?

Cho-Hoi Hui, Tak-Chuen Wong, Chi-Fai Lo and Ming-Xi Huang


Empirical findings and theoretical studies suggest that firms adjust toward timevarying target leverage ratios. This paper studies the performances of the default probabilities generated from two structural credit risk models (one with time dependent leverage ratios and one with constant target leverage ratios) and credit ratings. The time-dependent model consistently performs better than the other model and credit ratings in terms of having the discriminatory power to differentiate firms' default risk and the capability to predict default rates over the period from 1996 to 2006. The material differences between the predictive capability of the two models show that the time dependency of the target leverage ratio is a critical factor in modeling credit risk. The study also provides evidence to support the existence of a time-varying target leverage ratio.

Sorry, our subscription options are not loading right now

Please try again later. Get in touch with our customer services team if this issue persists.

New to View our subscription options

You need to sign in to use this feature. If you don’t have a account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an individual account here