Where Credit Is Due

A new study of the largest issuers of corporate debt shows that recent gains in creditworthiness are more fragile than you think.

Trend Spotting
Median changes for top 100 debt issuers as of August 31, 2003.
Current Period Versus 6 months ago 1 year ago 3 years ago*
EDF Change
(Basis Points)
-22.58 -11.26 8.59
EDF Change (%) -37.43% -22.97% 29.47%
Asset Volatility
Change (%)
-10.68% -14.60% -18.07%
Market Leverage
Change (%)
-9.03% -6.82% 25.88%
Market Asset
Value Change (%)
16.13% 2.92% 0.81%
Default Point
Change (%)
7.36% 8.23% 45.05%
Liabilities Change (%)
-5.08% -6.53% 0.25%
Liabilities Change (%)
7.07% 12.34% 46.41%
*Five issuers did not have data for the three-year study period.
Source: Moody’s KMV

Explaining EDF
How Moody’s KMV calculates credit risk.

Moody’s KMV expected default frequency is a measure of the probability that a company will default, or fail to make scheduled principal or interest payments, over a specified period of time—typically one year. According to MKMV’s model, a company defaults when the market value of its assets falls below its liabilities payable (the default point). Here is a closer look at the three key values that determine a company’s EDF.

  1. Current market value of the company (the market value of its assets). This measure reflects the market’s view of the enterprise value of the company, as determined by its equity value, equity volatility, and liability structure. Because the market value of assets is not directly observable, MKMV computes this value using a proprietary model, which treats the company’s equity value as a call option on its underlying assets. This approach enables MKMV to determine a company’s market value from the market characteristics of its equity value and the book value of its liabilities.
  2. The level of the company’s obligations (default point). This is the level of the market value of a company’s assets, below which the company would fail to make scheduled debt payments. The default point is company-specific and is a function of the company’s liability structure. It is estimated based on empirical research by MKMV and reflects the observation of thousands of defaulting companies since 1974, and how each company’s default point acted in relation to the market value of its assets at the time.
  3. The vulnerability of the market value to large changes (asset volatility). This is a measure of the business risk of the company—technically, the standard deviation of the annual percentage change in the market value of the company’s assets. The higher the asset volatility, the less certain investors are about the market value of the company, and the more likely the company’s value will fall below its default point.


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