Credit Default Swap Calibration and Equity Swap Valuation under Counterparty Risk with a Tractable Structural Model
Abstract
In this paper we develop a tractable structural model with analytical default probabilities depending on some dynamics parameters, and we show how to calibrate the model using a chosen number of Credit Default Swap (CDS) market quotes. We essentially show how to use structural models with a calibration capability that is typical of the much more tractable credit-spread based intensity models. We apply the structural model to a concrete calibration case and observe what happens to the calibrated dynamics when the CDS-implied credit quality deteriorates as the firm approaches default. Finally we provide a typical example of a case where the calibrated structural model can be used for credit pricing in a much more convenient way than a calibrated reduced form model: The pricing of counterparty risk in an equity swap.
Keywords
Cite
@article{arxiv.0912.3028,
title = {Credit Default Swap Calibration and Equity Swap Valuation under Counterparty Risk with a Tractable Structural Model},
author = {Damiano Brigo and Marco Tarenghi},
journal= {arXiv preprint arXiv:0912.3028},
year = {2009}
}
Comments
Reduced version in Proceedings of the FEA 2004 Conference at MIT, Cambridge, Massachusetts, November 8-10, and in: Pykhtin, M. (Editor), Counterparty Credit Risk Modeling: Risk Management, Pricing and Regulation. Risk Books, 2005, London