A semiparametric factor model for CDO surfaces dynamics

Barbara Choroś-Tomczyk, Wolfgang Härdle and Ostap Okhrin

Journal of Multivariate Analysis, 2016, vol. 146, issue C, 151-163

Abstract: Modelling the dynamics of credit derivatives is a challenging task in finance and economics. This work studies risk of collateralized debt obligations (CDOs) by investigating the evolution of tranche spread surfaces and base correlation surfaces using a dynamic semiparametric factor model (DSFM). The DSFM offers a combination of flexible functional data analysis and dimension reduction methods, where the change in time is linear but the shape is nonparametric. The study provides an empirical analysis based on a big data set of iTraxx Europe tranches and proposes an application to curve trading strategies. The DSFM allows us to describe the dynamics of all the tranches for all available maturities and series simultaneously which yields better understanding of the risk associated with trading CDOs and other structured products.

Keywords: CDO; Curve trade; Dynamic factor model; Semiparametric model; Surfaces dynamics (search for similar items in EconPapers)
JEL-codes: C14 C51 G11 G17 (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (3)

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DOI: 10.1016/j.jmva.2015.09.002

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