Evaluation of tranche in securitization and long-range Ising model

K. Kitsukawa, Soya Mori and M. Hisakado

Physica A: Statistical Mechanics and its Applications, 2006, vol. 368, issue 1, 191-206

Abstract: This econophysics work studies the long-range Ising model of a finite system with N spins and the exchange interaction J/N and the external field H as a model for homogeneous credit portfolio of assets with default probability Pd and default correlation ρd. Based on the discussion on the (J,H) phase diagram, we develop a perturbative calculation method for the model and obtain explicit expressions for Pd,ρd and the normalization factor Z in terms of the model parameters N and J,H. The effect of the default correlation ρd on the probabilities P(Nd,ρd) for Nd defaults and on the cumulative distribution function D(i,ρd) are discussed. The latter means the average loss rate of the“tranche” (layered structure) of the securities (e.g. CDO), which are synthesized from a pool of many assets. We show that the expected loss rate of the subordinated tranche decreases with ρd and that of the senior tranche increases linearly, which are important in their pricing and ratings.

Date: 2006
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Citations: View citations in EconPapers (4)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:phsmap:v:368:y:2006:i:1:p:191-206

DOI: 10.1016/j.physa.2005.12.057

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