ILLIQUIDITY RISK, PROJECT CHARACTERISTICS, AND THE OPTIMAL MATURITY OF CORPORATE DEBT

Abstract I derive the optimal maturity period for corporate debt used to finance a specific project, when costly financial distress is triggered by the inability to meet coupon obligations. My model predicts a negative relation between bond risk and maturity, and it explains why high‐grade bonds show greater maturity dispersion than low‐grade bonds, as observed in U.S. corporate bond markets. The major determinant of bond maturity is project duration for low‐risk bonds and project risk for high‐risk bonds. Other determinants of bond maturity are debt burden, reorganization costs, corporate tax rate, interest rate, and project growth rate.