Advanced Search
MyIDEAS: Login

CDS pricing under Basel III: capital relief and default protection

Contents:

Author Info

  • Chris Kenyon
  • Andrew Green
Registered author(s):

    Abstract

    Basel III introduces new capital charges for CVA. These charges, and the Basel 2.5 default capital charge can be mitigated by CDS. Therefore, to price in the capital relief that CDS contracts provide, we introduce a CDS pricing model with three legs: premium; default protection; and capital relief. If markets are complete, with no CDS bond basis, then CDSs can be replicated by taking short positions in risky floating bonds issued by the reference entity and a riskless bank account. If these conditions do not hold, then it is theoretically possible that the capital relief that CDSs provide may be priced in. Thus our model provides bounds on the CDS-implied hazard rates when markets are incomplete. Under simple assumptions we show that 20% to over 50% of observed CDS spread could be due to priced in capital relief. Given that this is different for IMM and non-IMM banks will we see differential pricing?

    Download Info

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
    File URL: http://arxiv.org/pdf/1211.5517
    File Function: Latest version
    Download Restriction: no

    Bibliographic Info

    Paper provided by arXiv.org in its series Papers with number 1211.5517.

    as in new window
    Length:
    Date of creation: Nov 2012
    Date of revision:
    Handle: RePEc:arx:papers:1211.5517

    Contact details of provider:
    Web page: http://arxiv.org/

    Related research

    Keywords:

    This paper has been announced in the following NEP Reports:

    References

    No references listed on IDEAS
    You can help add them by filling out this form.

    Citations

    Lists

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    Statistics

    Access and download statistics

    Corrections

    When requesting a correction, please mention this item's handle: RePEc:arx:papers:1211.5517. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (arXiv administrators).

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.