Computational techniques for basic affine models of portfolio credit risk | Zendy

Andreas Eckner | Zendy

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Computational techniques for basic affine models of portfolio credit risk

Author(s) -

Andreas Eckner

Publication year - 2009

Publication title -

the journal of computational finance

Language(s) - English

Resource type - Journals

SCImago Journal Rank - 0.677

H-Index - 14

eISSN - 1755-2850

pISSN - 1460-1559

DOI - 10.21314/jcf.2009.200

Subject(s) - credit derivative , tranche , copula (linguistics) , portfolio , credit risk , econometrics , computer science , affine transformation , range (aeronautics) , model risk , itraxx , credit valuation adjustment , hedge , credit default swap index , gaussian , economics , financial economics , risk management , actuarial science , mathematics , finance , composite material , credit reference , physics , quantum mechanics , ecology , materials science , biology , pure mathematics

This paper presents computational techniques that make a certain class of fully dynamic intensity-based models for portfolio credit risk, along the lines of Duffie and Garleanu (2001) and Mortensen (2006), just as computationally tractable as the Gaussian copula model. For this model, we improve the fit to tranche spreads by a factor of around three, by allowing for a more flexible correlation structure, and by accounting for market frictions due to bid-offer spreads. The resulting model can be used to hedge a wide range of risks in the credit market, such as the risk of changes in correlations, volatilities, or idiosyncratic default risk.

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