Key Assumption in Structural Models of Credit Analysis

Easy Credit Analysis And Valuation Structural Models

A corporate bond with a face value of $1,000 is issued by Tech Innovations Inc., which has a probability of default estimated at 5% based on its credit rating. The bond features semi-annual coupon payments of 6% and is expected to mature in 10 years. In order to evaluate the pricing of this bond under a structural model framework, it is important to consider the firm’s asset value and its volatility. Which of the following statements accurately describes a key assumption when applying structural models for credit analysis?

Structural models assume that a firm's asset value follows a geometric Brownian motion and that the firm's default is triggered when its asset value falls below a certain threshold.

Structural models posit that the firm's cash flows are deterministic and independent of the firm's capital structure.

Structural models rely on historical default rates as the sole predictor of future defaults without consideration for market conditions.

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