Three essays on the credit enhancement of corporate bonds and firm value

This dissertation consists of three essays on credit enhancement (CE) of corporate bonds and firm value. The first essay presents the evidence that CE use is negatively associated with firm value and firms issuing debt with CEs underperform those without. Further evidence suggests that better investment opportunities and more debt use help alleviate the negative CE effect. The second essay examines the financial cost of using CE on corporate bonds. It shows that for investment grade bonds, CE on average inflates the bond yield spread by 23 basis points. In a sharp contrast, for speculative bonds, CE on average lowers the bond yield spread by 60 basis points. Further investigation reveals that the effect of CE is a joint effect of credit rating enhancement and increased expected equity idiosyncratic volatility. Finally, the third essay reports that the underperformance of a special type of credit enhancer, credit risk insurers (CRIs), during the 2007-2009 financial crisis is mainly attributed to the greater systemic risk of CRIs. It also shows the credit spreads of insured bonds increase significantly after their insurers are downgraded or put in the negative watch list