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A STRUCTURAL MODEL FOR CREDIT-EQUITY DERIVATIVES AND BESPOKE CDOs

Author

Listed:
  • Albanese, Claudio
  • Vidler, Alicia

Abstract

We 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.

Suggested Citation

  • Albanese, Claudio & Vidler, Alicia, 2007. "A STRUCTURAL MODEL FOR CREDIT-EQUITY DERIVATIVES AND BESPOKE CDOs," MPRA Paper 5227, University Library of Munich, Germany, revised 09 Sep 2007.
  • Handle: RePEc:pra:mprapa:5227
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    File URL: https://mpra.ub.uni-muenchen.de/5227/1/MPRA_paper_5227.pdf
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    References listed on IDEAS

    as
    1. 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.
    2. Albanese, Claudio, 2006. "Operator Methods, Abelian Processes And Dynamic Conditioning," MPRA Paper 5246, University Library of Munich, Germany, revised 06 Nov 2007.
    3. 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.
    Full references (including those not matched with items on IDEAS)

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    Cited by:

    1. repec:wsi:ijtafx:v:14:y:2011:i:07:n:s0219024911006619 is not listed on IDEAS
    2. Albanese, Claudio & Vidler, Alicia, 2008. "Dynamic Conditioning and Credit Correlation Baskets," MPRA Paper 8368, University Library of Munich, Germany, revised 21 Apr 2008.

    More about this item

    Keywords

    Credit derivatives; equity derivatives; long dated derivatives; CDOs; structural model;

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing

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