There is a close link between prices of equity options and the default probability of a firm. We show that in the presence of positive expected equity recovery, standard methods that assume zero equity recovery at default misestimate the option-implied default probability. We introduce a simple...

There is a close link between prices of equity options and the probability of default of a firm. We show that in the presence of positive expected equity recovery, the standard methods that assume zero equity recovery at default misestimate the probability of default implicit in option prices....