The credit-spread puzzle

According to theoretical models of credit risk, the determinants of credit spreads are the differences in creditworthiness between corporations. However, considering several theories, credit spreads may also be influenced by other economic factors. This paper aims to empirically test the explanatory power of the factors implied by the theory on credit spreads, and presents the puzzle that such factors explain little of these spreads. Thereafter, we attempt to economically approach this puzzle by testing the explanatory power of other economic factors such as credit rating, illiquidity, investors' preferences, and the business cycle.