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On Default Correlation And Pricing Of Collateralized Debt Obligation By Copula Functions

Author

Listed:
  • PING LI

    (Department of Finance, Beihang University, Beijing 100083, China)

  • HOUSHENG CHEN

    (Department of Finance, Beihang University, Beijing 100083, China)

  • XIAOTIE DENG

    (Department of Computer Science, City University of Hong Kong, Tat Chee Avenue, Kowloon, Hong Kong, China)

  • SHUNMING ZHANG

    (School of Economics and Finance, Victoria University of Wellington, Wellington, New Zealand)

Abstract

Default correlation is the key point for the pricing of multi-name credit derivatives. In this paper, we apply copulas to characterize the dependence structure of defaults, determine the joint default distribution, and give the price for a specific kind of multi-name credit derivative — collateralized debt obligation (CDO). We also analyze two important factors influencing the pricing of multi-name credit derivatives, recovery rates and copula function. Finally, we apply Clayton copula, in a numerical example, to simulate default times taking specific underlying recovery rates and average recovery rates, then price the tranches of a given CDO and then analyze the results.

Suggested Citation

  • Ping Li & Housheng Chen & Xiaotie Deng & Shunming Zhang, 2006. "On Default Correlation And Pricing Of Collateralized Debt Obligation By Copula Functions," International Journal of Information Technology & Decision Making (IJITDM), World Scientific Publishing Co. Pte. Ltd., vol. 5(03), pages 483-493.
    • Handle: RePEc:wsi:ijitdm:v:05:y:2006:i:03:n:s0219622006002076
    DOI: 10.1142/S0219622006002076
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    Cited by:

    1. repec:zbw:rwirep:0317 is not listed on IDEAS
    2. Philip Messow, 2012. "Pricing Synthetic CDOs Using a Three Regime Random-Factor-Loading Model," Ruhr Economic Papers 0317, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen.
    3. Messow, Philip, 2012. "Pricing Synthetic CDOs Using a Three Regime Random-Factor-Loading Model," Ruhr Economic Papers 317, RWI - Leibniz-Institut für Wirtschaftsforschung, Ruhr-University Bochum, TU Dortmund University, University of Duisburg-Essen.

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