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Pricing basket default swaps in a tractable shot-noise model

Author

Listed:
  • Herbertsson, Alexander

    (Department of Economics, School of Business, Economics and Law, Göteborg University)

  • Jang, Jiwook

    (Department of Actuarial Studies, Faculty of Business and Economics, Macquarie University)

  • Schmidt, Thorsten

    (Department of Mathematics, University of Chemnitz)

Abstract

We value CDS spreads and kth-to-default swap spreads in a tractable shot noise model. The default dependence is modelled by letting the individual jumps of the default intensity be driven by a common latent factor. The arrival of the jumps is driven by a Poisson process. By using conditional independence and properties of the shot noise processes we derive tractable closed-form expressions for the default distribution and the ordered survival distributions in a homogeneous portfolio. These quantities are then used to price and study CDS spreads and kth-to-default swap spreads as function of the model parameters. We study the kth-to-default spreads as function of the CDS spread, as well as other parameters in the model. All calibrations lead to perfect fits.

Suggested Citation

  • Herbertsson, Alexander & Jang, Jiwook & Schmidt, Thorsten, 2009. "Pricing basket default swaps in a tractable shot-noise model," Working Papers in Economics 359, University of Gothenburg, Department of Economics.
    • Handle: RePEc:hhs:gunwpe:0359
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    File URL: http://hdl.handle.net/2077/20198
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    References listed on IDEAS

    as
    1. Dassios, Angelos & Jang, Jiwook, 2003. "Pricing of catastrophe reinsurance and derivatives using the Cox process with shot noise intensity," LSE Research Online Documents on Economics 2849, London School of Economics and Political Science, LSE Library.
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    More about this item

    Keywords

    Credit risk; intensity-based models; dependence modelling; shot noise; CDS; kth-to-default swaps;
    All these keywords.

    JEL classification:

    • C02 - Mathematical and Quantitative Methods - - General - - - Mathematical Economics
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
    • G33 - Financial Economics - - Corporate Finance and Governance - - - Bankruptcy; Liquidation

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