Updating the Option Implied Probability of Default Methodology

Johannes Vilsmeier

No 462, University of Regensburg Working Papers in Business, Economics and Management Information Systems from University of Regensburg, Department of Economics

Abstract: In this paper we ‘update’ the option implied probability of default (option iPoD) approach recently suggested in the literature. First, a numerically more stable objective function for the estimation of the risk neutral density is derived whose integrals can be solved analytically. Second, it is reasoned that the originally proposed approach for the estimation of the PoD has some serious drawbacks and hence an alternative procedure is suggested that is based on the Lagrange multipliers. Carrying out numerical evaluations and a practical application we find that the framework provides very promising results.

Keywords: Option Implied Probability of Default; Risk Neutral Density; Cross Entropy (search for similar items in EconPapers)
Date: 2011-10-12
New Economics Papers: this item is included in nep-ban, nep-cis, nep-rmg and nep-upt
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Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:bay:rdwiwi:22326

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