Corporate Bond Prices and Co-ordination Failure

It has been suggested (Morris, Shin 2001) that co-ordination failure between holders of debt can affect the price of debt. In essence, fear of premature foreclosure by other debtors can lead to preemptive action, affecting the value of debt. Using a continuous-time framework related to a Merton (1974)-type structural model, this paper demonstrates how such co-ordination failures can affect the prices of corporate bonds. As it turns out, the resulting model is version of a structural model that allows default before maturity, a model feature that has proven to be popular with practitioners.

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