Abstract

This thesis first examines the one-year rating migration behavior of Canadian corporate debt issuers rated by Standard and Poor's between January 1981 and December 2001. Obligors are sorted into three industry groups--financials, industrials and utilities. The studied period is divided between years of expansion and recession. The corresponding conditional rating migration patterns are compared with unconditional estimates in order to assess the reliability of the latter, which are traditionally used to evaluate credit risk. Our unconditional results show that the average credit quality of Canadian corporate obligors has deteriorated over the studied period, in particular during the 1981-1982 and 1990-1992 recession years. On average, issuers in the industrials sector underwent the deepest credit quality deterioration and highest rating activity ratio. Furthermore, we find that industry- and economy-conditioned rating migration dynamics significantly differ from their unconditional estimates. However, the one-year rating transition matrix is weakly influenced by the stage in the business cycle or by the obligor's industry. Secondly, we compare the performance for Canadian corporate bonds between February 1993 and May 2002. We find that the term structure of interest rates is a major determinant of bond returns regardless of the bond rating class, maturity bucket or industry. Finally, we show that the total volatility of Canadian corporate bonds has slightly decreased over the 1993 to 2002 period. Following Campbell, Lettau, Malkiel and Xu (2001), we examine the market, industry and firm-specific volatility components of bond returns. We find that the relative and absolute levels of market volatility remain fairly low and steady over the sample period. However, the relative level of firm-specific volatility has sharply increased. Simultaneously, the industry volatility level has decreased. Augmented Dickey-Fuller tests provide no evidence of deterministic trends in these volatility components.