Haircut 100 - how is the burden shared when banks go bust?

HAIRCUT 100

Richard Woolnough, the manager of the M&G Optimal Income and Corporate Bond funds, discusses the Irish banking crisis and the possible outcome for bondholders.

When investing in credit, you perform a cost benefit analysis by weighing the risks you are taking against the spread you receive over risk free securities. This excess yield spread is easily observable, and from it you can work out the implied probability of default. It is not the end of the story when a bond defaults though. The important factor that will determine the eventual loss you may suffer will depend on how much you recover in bankruptcy, and when this recovery is realised. The difference between what you are legally entitled to receive (100 cents in the dollar) and what yo...