A STRUCTURAL MODEL FOR CREDIT-EQUITY DERIVATIVES AND BESPOKE CDOs
AbstractWe present a new structural model for single name equity and credit derivatives which we also correlate across reference names to produce a model for bespoke synthetic CDOs. The model captures volatility and outlook risk along with correlation risk for small and for large moves separately. We show that the model calibrates well to both equity structured products and credit derivatives. As examples, we discuss a number of single name derivatives on IBM spanning the credit-equity spectrum and ranging from volatility swaps, to cliquets, CDS options and CDSs on leveraged loans with pre-payment risk. We also use the model to price tranches on the investment grade DJ.CDX.IG index along with tranches on the high yield index DJ.CDX.HY. We show that the model gives consistent and high precision pricing across all these derivative asset classes. We show that this can be achieved consistently, with the very same parameter choices across these diverse derivative assets and making use of only minor explicit time dependencies.
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Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 5227.
Date of creation: 26 Jan 2007
Date of revision: 09 Sep 2007
Credit derivatives; equity derivatives; long dated derivatives; CDOs; structural model;
Find related papers by JEL classification:
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
This paper has been announced in the following NEP Reports:
- NEP-ALL-2007-10-13 (All new papers)
- NEP-CFN-2007-10-13 (Corporate Finance)
- NEP-RMG-2007-10-13 (Risk Management)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Albanese, Claudio, 2006. "Operator Methods, Abelian Processes And Dynamic Conditioning," MPRA Paper 5246, University Library of Munich, Germany, revised 06 Nov 2007.
- Lucas, Andr‚ & Klaassen, Pieter & Spreij, Peter, 1999.
"An analytic approach to credit risk of large corporate bond and loan portfolios,"
Serie Research Memoranda
0018, VU University Amsterdam, Faculty of Economics, Business Administration and Econometrics.
- Lucas, Andre & Klaassen, Pieter & Spreij, Peter & Straetmans, Stefan, 2001. "An analytic approach to credit risk of large corporate bond and loan portfolios," Journal of Banking & Finance, Elsevier, vol. 25(9), pages 1635-1664, September.
- Albanese, Claudio & Chen, Oliver X., 2006. "Implied migration rates from credit barrier models," Journal of Banking & Finance, Elsevier, vol. 30(2), pages 607-626, February.
- Albanese, Claudio & Vidler, Alicia, 2008. "Dynamic Conditioning and Credit Correlation Baskets," MPRA Paper 8368, University Library of Munich, Germany, revised 21 Apr 2008.
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