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A Nonparametric Urn-Based Approach To Interacting Failing Systems With An Application To Credit Risk Modeling

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Author Info

  • PASQUALE CIRILLO

    ()
    (Institute of Mathematical Statistics and Actuarial Sciences, University of Bern, Sidlerstrasse 5, Bern, CH-3012, Switzerland)

  • JÜRG HÜSLER

    (Institute of Mathematical Statistics and Actuarial Sciences, University of Bern, Sidlerstrasse 5, Bern, CH-3012, Switzerland)

  • PIETRO MULIERE

    (Department of Decision Sciences, Bocconi University Via Röntgen 1, Milan, IT-20136, Italy)

Abstract

In this paper we propose a new nonparametric approach to interacting failing systems (FS), that is systems whose probability of failure is not negligible in a fixed time horizon, a typical example being firms and financial bonds. The main purpose when studying a FS is to calculate the probability of default and the distribution of the number of failures that may occur during the observation period. A model used to study a failing system is defined default model. In particular, we present a general recursive model constructed by the means of interacting urns. After introducing the theoretical model and its properties we show a first application to credit risk modeling, showing how to assess the idiosyncratic probability of default of an obligor and the joint probability of failure of a set of obligors in a portfolio of risks, that are divided into reliability classes.

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Bibliographic Info

Article provided by World Scientific Publishing Co. Pte. Ltd. in its journal International Journal of Theoretical and Applied Finance.

Volume (Year): 13 (2010)
Issue (Month): 08 ()
Pages: 1223-1240

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Handle: RePEc:wsi:ijtafx:v:13:y:2010:i:08:p:1223-1240

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Related research

Keywords: Failing system; urn model; neutral to the right processes; credit risk; firms' defaults;

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Cited by:
  1. Fortini, S. & Petrone, S., 2012. "Hierarchical reinforced urn processes," Statistics & Probability Letters, Elsevier, vol. 82(8), pages 1521-1529.

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