Valuation of default sensitive claims under imperfect information
AbstractWe propose an evaluation method for financial assets subject to default risk, when investors face imperfect information about the state variable triggering the default. The model we propose generalizes the one by Duffie and Lando (2001) in the following way:(i)it incorporates informational noise in continuous time, (ii) it respects the (H) hypothesis, (iii) it precludes arbitrage from insiders. The model is sufficiently general to encompass a large class of structural models. In this setting we show that the default time is totally inaccessible in the market’s filtration and derive the martingale hazard process. Finally, we provide pricing formulas for default-sensitive claims and illustrate with particular examples the shapes of the credit spreads and the conditional default probabilities. An important feature of the conditional default probabilities is they are non Markovian. This might shed some light on observed phenomena such as the ”rating momentum”.
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Bibliographic InfoPaper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/2191.
Date of creation: Apr 2006
Date of revision:
hybrid models; default sensitive claims;
Find related papers by JEL classification:
- C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
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