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Explaining the Rate Spread on Corporate Bonds

Edwin J. Elton, Martin J. Gruber, Deepak Agrawal and Christopher Mann
The Journal of Finance
Vol. 56, No. 1 (Feb., 2001), pp. 247-277
Published by: Wiley for the American Finance Association
Stable URL: http://www.jstor.org/stable/222468
Page Count: 31
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Explaining the Rate Spread on Corporate Bonds
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Abstract

The purpose of this article is to explain the spread between rates on corporate and government bonds. We show that expected default accounts for a surprisingly small fraction of the premium in corporate rates over treasuries. While state taxes explain a substantial portion of the difference, the remaining portion of the spread is closely related to the factors that we commonly accept as explaining risk premiums for common stocks. Both our time series and cross-sectional tests support the existence of a risk premium on corporate bonds.

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