KAEA-VSS: Empirical Micro and Microeconometrics Group March 3 at 8pm EST (March 4 at 10am KST)

Title: Bond Funds and Credit Risk

Presenter: Jaewon Choi (University of Illinois at Urbana-Champaign)

We show that supply-side effects arising from the bond holdings of open-end mutual funds affect corporate credit risk. In our model, funds exposed to flow-performance relationships are reluctant to refinance bonds of companies with weak cash flow prospects fearing future outflows. This lowers refinancing prices, enhancing equityholders’ strategic default incentives, engendering a positive association between bond funds’ presence and credit risk. Empirically, we find that in firms with weak cash flow prospects, fund holding shares are associated with increased CDS spreads, more so when flows are more sensitive to performance. We use instrumental variables and quasi-experiments to address endogeneity concerns.