During recent years markets for credit derivatives have developed considerably. Innovative financial instruments offer new ways to banks to manage credit risk. In this paper we use a simple microeconomic model to show how a credit option of the put type can be used by a bank's risk-averse management to hedge against credit risk. We find that under optimal hedging the Value at Risk is zero and the bank chooses to over-hedge.
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Paper provided by Universitaet Augsburg, Institute for Economics in its series Discussion Paper Series with number
231.
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