Statistical Methods in Finance 2018

Dec 17 - 20, 2018


Volatility forecasting for Distance-to-Default estimation

by Susan Thomas

A key input to estimating the distance to default measure for a firm is the forecast of the volatility of its stock returns. In this paper, we present the distance to default estimated for a sample of well-traded stocks using forecasts for volatility, selected from three different volatility estimators -- range, historical volatility, and implied volatility calculated from the options prices on the stock. We first test the performance of the forecasts from these three estimators to predict the realised volatility of the stock returns. Next, we use these estimators to calculate the distance to default measure for the firm, and analyse how the different forecasts affect the distance to default measure.