Pricing Options on Defaultable Stocks
Abstract† Stock option price approximations are developed for a model which takes both the risk of default and the stochastic volatility into account. The intensity of defaults is assumed to be influenced by the volatility. It is shown that it might be possible to infer the risk neutral default intensity from the stock option prices. The proposed option price approximation has a rich implied volatility surface structure and fits the data implied volatility well. A calibration exercise shows that an effective hazard rate from bonds issued by a company can be used to explain the impliedvolatility skew of the option prices issued by the same company. It is also observed that the implied yield spread obtained from calibrating all the model parameters to the option prices matches the observed yield spread.
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Bibliographic InfoArticle provided by Taylor & Francis Journals in its journal Applied Mathematical Finance.
Volume (Year): 15 (2008)
Issue (Month): 3 ()
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- Tim Leung & Peng Liu, 2012.
"Risk Premia And Optimal Liquidation Of Credit Derivatives,"
International Journal of Theoretical and Applied Finance (IJTAF),
World Scientific Publishing Co. Pte. Ltd., vol. 15(08), pages 1250059-1-1.
- Tim Leung & Peng Liu, 2011. "Risk Premia and Optimal Liquidation of Credit Derivatives," Papers 1110.0220, arXiv.org, revised Oct 2012.
- Claudio Fontana & Juan Miguel A. Montes, 2012. "A unified approach to pricing and risk management of equity and credit risk," Papers 1212.5395, arXiv.org, revised May 2013.
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