Calibrating risk-neutral default correlation
AbstractThe implementation of credit risk models has largely relied on the use of historical default dependence, as proxied by the correlation of equity returns. However, as is well known, credit derivative pricing requires risk-neutral dependence. Using the copula methodology, we infer risk neutral dependence from CDS data. We also provide a market application and explore its impact on the fees of some credit derivatives.
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Bibliographic InfoPaper provided by ICER - International Centre for Economic Research in its series ICER Working Papers - Applied Mathematics Series with number 12-2005.
Length: 18 pages
Date of creation: May 2005
Date of revision:
Other versions of this item:
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
This paper has been announced in the following NEP Reports:
- NEP-ALL-2005-06-05 (All new papers)
- NEP-FIN-2005-06-05 (Finance)
- NEP-RMG-2005-06-05 (Risk Management)
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- Kwamie Dunbar & Albert J. Edwards, 2007. "Empirical Analysis of Credit Risk Regime Switching and Temporal Conditional Default Correlation in Credit Default Swap Valuation: The Market liquidity effect," Working papers 2007-10, University of Connecticut, Department of Economics.
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