Corporate Pension Funding and Credit Spreads

Abstract

This study empirically tested whether pension information derived from accounting disclosures is priced in corporate bond spreads. The model was tested on corporate bond data of U.S. companies for the 2001–04 period. Unfunded pension liabilities are incorporated in credit spreads, and the sensitivity of market spreads to deficits is greater than the sensitivity to ordinary long-term debt. This relationship is not, however, a linear monotonic function, and the sensitivity of bond spreads to deficits is substantially higher for high-yield than for investment-grade bonds. Moreover, the bond market prices residual risk even in funded obligations and gives lower weighting to off-balance-sheet liabilities.