Crisis Dynamics of Implied Default Recovery Ratios: Evidence From Russia and Argentina
November, 1999
John J. Merrick, Jr.
ABSTRACT
The Russian GKO default crisis provides a unique window into the impact of changing default probabilities and recovery
ratio assumptions on credit-sensitive sovereign bond prices. This paper introduces a joint implied parameter approach
to extract both the expected recovery ratio and the default probability term structure. The methodology is applied
to both Russian Federation and Republic of Argentina US dollar-denominated Eurobonds before and after the GKO crisis.
For the Russian bonds, the sample paths suggest a two-phase revaluation. Shifts in default probabilities account
for most of the initial price collapse. Marked decreases in the projected default recovery ratio dominate the continued
Russian bond price declines. The "contagion effect" impact of the default crisis on the Argentine Eurobond
market actually resembles the Russian case much more than the raw price data indicate. The crucial Argentine distinction
is that investors never cut recovery value assumptions.
Merrick: (212) 998-0378 jmerrick@stern.nyu.edu
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