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Valuation of portfolio loss derivatives in an infectious model

In: Mathematical and Statistical Methods for Actuarial Sciences and Finance

Author

Listed:
  • Areski Cousin

    (University of Lyon, University Lyon 1, LSAF, EA 2429, ISFA)

  • Diana Dorobantu

    (University of Lyon, University Lyon 1, LSAF, EA 2429, ISFA)

  • Didier Rullière

    (University of Lyon, University Lyon 1, LSAF, EA 2429, ISFA)

Abstract

In this paper we investigate a dynamic credit risk contagion model. We consider an economy of n firms which may default directly or may be infected by other defaulting firms (a domino effect being also possible). The spontaneous default without external influence and the infections are described by conditionally independent Bernoulli-type random variables. We provide a recursive algorithm for the computation of the loss distribution that involves successive applications of the so-called Waring’s formula. The major advantage of this algorithm is that it can be applied for a large portfolio. We then examine the calibration of model parameters on CDX.NA.IG tranche quotes during the crisis.

Suggested Citation

  • Areski Cousin & Diana Dorobantu & Didier Rullière, 2012. "Valuation of portfolio loss derivatives in an infectious model," Springer Books, in: Cira Perna & Marilena Sibillo (ed.), Mathematical and Statistical Methods for Actuarial Sciences and Finance, pages 139-147, Springer.
    • Handle: RePEc:spr:sprchp:978-88-470-2342-0_17
    DOI: 10.1007/978-88-470-2342-0_17
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