Corporate Default Rates

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Corporate Default Rates

Post by Park » Sun Jul 07, 2019 5:29 pm


The above figure comes from the paper, which is linked below:

"Corporate Bond Default Risk: A 150-Year Perspective
Kay Giesecke, Francis A. Longstaff, Stephen Schaefer, and Ilya Strebulaev
NBER Working Paper No. 15848
March 2010
JEL No. G12,G33
We study corporate bond default rates using an extensive new data set spanning the 1866–2008 period.
We find that the corporate bond market has repeatedly suffered clustered default events much worse
than those experienced during the Great Depression. For example, during the railroad crisis of 1873–1875,
total defaults amounted to 36 percent of the par value of the entire corporate bond market..."

I have heard those who make the argument to stick with treasuries, when it comes to your fixed income exposure. I have also heard the arguments that historically, there has been an advantage to owning high grade corporate bonds, as long as you stick to short term corporate bonds.

It may depend on what role fixed income plays in your portfolio. But if you see fixed income as the ballast of your portfolio, the above is relevant. You have to consider the probability, albeit small, that default rates can be significant.

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Re: Corporate Default Rates

Post by SimpleGift » Sun Jul 07, 2019 6:45 pm

We don't invest in corporate bonds (as we already have plenty of equity risk in our retirement portfolio), but this was one of the more enjoyable papers to read that's been posted on the Forum in a while. Along with their empirical analysis, the authors include contemporaneous quotes from financial panics and meltdowns in the late 1800s, conveying a real feeling of the loss:

For example, after three straight years of bond defaults in 1876:
the Commercial and Financial Chronicle wrote:"This marks the depth of the present disease. It has not been simply the falling out of reckless traders—not the end of an ordinarily wild speculation in which the failure is usually the result of individual indiscretion and rashness; but it is more a result of a wrong financial system. We have been trading on a fictitious basis. The truth that it was not real, suddenly is forced upon every man. The houses, the stocks of goods, the factories we had produced and built and held at high values, we see could now be duplicated at about two-thirds or one-half their cost."
Thanks for posting, Park.

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Re: Corporate Default Rates

Post by Vanguard Fan 1367 » Mon Jul 08, 2019 11:53 am

Since about 2014 I have happily enjoyed the higher returns that Corporate Bond funds offer. Thanks for posting the dark side of corporate bonds.

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Re: Corporate Default Rates

Post by patrick013 » Mon Jul 08, 2019 2:50 pm


The above keys on some current info also.

I've read where that same period was bad for muni defaults.
So wide diversification of ST AAA muni's rather than a few LT muni bonds like some people might do has it's merits.

age in bonds, buy-and-hold, 10 year business cycle

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Re: Corporate Default Rates

Post by DoctorPhysics » Mon Jul 08, 2019 3:03 pm

They are clustered about what seems to be a shoddily formed normal distribution over a few years.

Could one use this behavior and exit corporate bonds when the default rate starts to rise? And then enter again when they start to fall? Market timing I am sure!

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Re: Corporate Default Rates

Post by Park » Tue Jul 09, 2019 8:21 am ... ltdown.asp

In 2008, there was the question of money market funds breaking the buck. That wasn't due to Treasury bill exposure, but due to exposure to the corporate sector.

1929-1932 returns US
SCV -85.1%
LCV -77.6%
S&P500 -64.3% ... y-grow-up/

Jeremy Grantham:

"Value investing has always had a hidden but serious risk — the 60-year flood. The so-called price/book effect (and the small stock effect) sound like a free lunch, but, in 1929-33, 20% of all companies went bankrupt. They were not the large high quality blue chips but small “cheap stocks” with low price-book ratios."

In the Depression, stocks did poorly, and small value did even worse. Per the above quote, it wasn't just a question of small value decline, but also of small value bankruptcy. Admittedly, the Depression was a time of deflation, and that hurt small value stocks with their higher leverage. Nevertheless, my guess is that in times of corporate distress, large cap stocks will be better able to handle it than small value.

My goal in investing in fixed income or cash is to diversify or at least dilute my stock risk. My stock risk is due to exposure to business sector. Do I want my fixed income and cash to also be exposed to business sector risk? One can make an argument that you should diversify your risk exposure, and invest in government backed fixed income and money market instruments. And based on what happened in the Depression, this may especially hold true if you tilt to small and value.

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