Credit Default Swap Calibration and Equity Swap Valuation under Counterparty Risk with a Tractable Structural Model
AbstractIn this paper we develop a tractable structural model with analytical default probabilities depending on some dynamics parameters, and we show how to calibrate the model using a chosen number of Credit Default Swap (CDS) market quotes. We essentially show how to use structural models with a calibration capability that is typical of the much more tractable credit-spread based intensity models. We apply the structural model to a concrete calibration case and observe what happens to the calibrated dynamics when the CDS-implied credit quality deteriorates as the firm approaches default. Finally we provide a typical example of a case where the calibrated structural model can be used for credit pricing in a much more convenient way than a calibrated reduced form model: The pricing of counterparty risk in an equity swap.
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Bibliographic InfoPaper provided by arXiv.org in its series Papers with number 0912.3028.
Date of creation: Dec 2009
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Web page: http://arxiv.org/
This paper has been announced in the following NEP Reports:
- NEP-ALL-2009-12-19 (All new papers)
- NEP-BAN-2009-12-19 (Banking)
- NEP-MIC-2009-12-19 (Microeconomics)
- NEP-RMG-2009-12-19 (Risk Management)
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