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Abstract The risk behavior of financially distressed companies is studied using the shifting regimes regression model originally suggested by Brown, Durbin, and Evans. In addition, the presence of nonsynchronous trading is detected and the regression model is adjusted accordingly using Dimson's technique. The results reveal that the behavior of systematic risk as firms approach bankruptcy depends to some degree on appropriate identification of periods over which beta is constant and adjusting for nonsynchronous trading. The results also lend support to the importance of skewness and to some extent beta but not unsystematic risk in explaining the security returns of firms approaching bankruptcy. Finally, the behavior of equity risk is examined according to the outcome of the bankruptcy filing.
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