Cost of Debt Bias

Debt is perpetual 2. probability of default is 6 in each period. The probability is the same in every period 3. If default occurs, bondholders receive p fraction of the face (principal) value f the bond plus accrued interest. 4. Bond is sold at par, i. e. , the bonds initial price equals its principal value. . If the bond does not default, the bondholders receive the promised coupon payment. 6. Discount rates are constant over time. At the start of each period in which the bond has yet to default, the bonds price must equal its initial price. Why? At the start of period 1, the bond promises to pay a perpetual series of interest payments and with a 6 probability of default and an a ecovery rate of p; at the start of period 100, if the bond never defaulted in the previous 99 periods, the bond promises to pay a perpetual series of interest payments and with a 6 probability of default and an a recovery rate of p.The same statement is true for any and all dates in the future. Thus, the pr ice will be the same at all dates in the future. Thus, if the bond does not default at the end of the period, at the end of a period, it is worth P + rYTM P; if the bond defaults at the end of a eriod, it is worth y(P + rYTM P).