Unilateral CVA for CDS in a contagion model with stochastic pre-intensity and interest
Price of a financial derivative with unilateral counterparty credit risk equals to the price of an otherwise risk-free derivative minus a credit value adjustment (CVA) component, which can be seen as a call option on investor's NPV with strike 0. Thus modeling volatility of NPV is the foundation for CVA valuation. This paper assumes that default times of counterparty and reference firm follow a special contagion model with stochastic pre-intensities that allows for explicit formulas for default probabilities. Stochastic interest rate is also incorporated to account for positive correlation between pre-intensity and interest. Survival measure approach is employed to calculate NPV of a risk-free CDS, and semi-analytical solution for CVA is obtained through affine specifications. Numerical analysis shows that contagion has more significant impact on CVA than diffusion of pre-intensities, and the positive correlation between interest and reference firm's pre-intensity has monotonic decreasing impact on CVA.
If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
As the access to this document is restricted, you may want to look for a different version under "Related research" (further below) or search for a different version of it.
References listed on IDEAS
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.:
- Christophette Blanchet-Scalliet & Fr\'ed\'eric Patras, 2008. "Counterparty risk valuation for CDS," Papers 0807.0309, arXiv.org.
- P. Collin-Dufresne & R. Goldstein & J. Hugonnier, 2004. "A General Formula for Valuing Defaultable Securities," Econometrica, Econometric Society, vol. 72(5), pages 1377-1407, 09.
- Kwai Leung & Yue Kwok, 2009. "Counterparty Risk for Credit Default Swaps: Markov Chain Interacting Intensities Model with Stochastic Intensity," Asia-Pacific Financial Markets, Springer, vol. 16(3), pages 169-181, September.
- Fan Yu, 2007. "Correlated Defaults In Intensity-Based Models," Mathematical Finance, Wiley Blackwell, vol. 17(2), pages 155-173.
- Robert A. Jarrow, 2001. "Counterparty Risk and the Pricing of Defaultable Securities," Journal of Finance, American Finance Association, vol. 56(5), pages 1765-1799, October.
When requesting a correction, please mention this item's handle: RePEc:eee:ecmode:v:29:y:2012:i:2:p:471-477. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Zhang, Lei)
If references are entirely missing, you can add them using this form.