Correlation breakdown, copula credit default models and arbitrage
Pricing of Securities
2009-09-01 v1 Risk Management
Abstract
The recent "correlation breakdown" in the modeling of credit default swaps, in which model correlations had to exceed 100% in order to reproduce market prices of supersenior tranches, is analyzed and argued to be a fundamental market inconsistency rather than an inadequacy of the specific model. As a consequence, markets under such conditions are exposed to the possibility of arbitrage. The general construction of arbitrage portfolios under specific conditions is presented.
Cite
@article{arxiv.0908.4299,
title = {Correlation breakdown, copula credit default models and arbitrage},
author = {Rodanthy Tzani and Alexios P. Polychronakos},
journal= {arXiv preprint arXiv:0908.4299},
year = {2009}
}
Comments
15 pages