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The Jarrow & Turnbull setting revisited

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  • Thomas Krabichler
  • Josef Teichmann

Abstract

We consider a financial market with zero-coupon bonds that are exposed to credit and liquidity risk. We revisit the famous Jarrow & Turnbull setting in order to account for these two intricately intertwined risk types. We utilise the foreign exchange analogy that interprets defaultable zero-coupon bonds as a conversion of non-defaultable foreign counterparts. The relevant exchange rate is only partially observable in the market filtration, which leads us naturally to an application of the concept of platonic financial markets. We provide an example of tractable term structure models that are driven by a two-dimensional affine jump diffusion. Furthermore, we derive explicit valuation formulae for marketable products, e.g., for credit default swaps.

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  • Thomas Krabichler & Josef Teichmann, 2020. "The Jarrow & Turnbull setting revisited," Papers 2004.12392, arXiv.org.
    • Handle: RePEc:arx:papers:2004.12392
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    References listed on IDEAS

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    6. Robert Jarrow & Yildiray Yildirim, 2008. "Pricing Treasury Inflation Protected Securities and Related Derivatives using an HJM Model," World Scientific Book Chapters, in: Financial Derivatives Pricing Selected Works of Robert Jarrow, chapter 16, pages 349-370, World Scientific Publishing Co. Pte. Ltd..
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    Cited by:

    1. Stefan Tappe, 2022. "Invariant cones for jump-diffusions in infinite dimensions," Papers 2206.13913, arXiv.org, revised Nov 2023.

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