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Desirable Portfolios in Fixed Income Markets: Application to Credit Risk Premiums

José Garrido () and Ramin Okhrati ()
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José Garrido: Department of Mathematics and Statistics, Concordia University, Montreal, QC H3G 1M8, Canada
Ramin Okhrati: Mathematical Sciences, University of Southampton, Southampton SO17 1BJ, UK

Risks, 2018, vol. 6, issue 1, 1-21

Abstract: An arbitrage portfolio provides a cash flow that can never be negative at zero cost. We define the weaker concept of a “desirable portfolio” delivering cash flows with negative risk at zero cost. Although these are not completely risk-free investments and subject to the risk measure used, they can provide attractive investment opportunities for investors. We investigate in detail the theoretical aspects of this portfolio selection procedure and the existence of such opportunities in fixed income markets. Then, we present two applications of the theory: one in analyzing market integration problem and the other in gauging the credit quality of defaultable bonds in a portfolio. We also discuss the model calibration and provide some numerical illustrations.

Keywords: minimization of risk measures; desirable portfolios; risk statistics; market integration; credit premium estimation (search for similar items in EconPapers)
JEL-codes: C G0 G1 G2 G3 M2 M4 K2 (search for similar items in EconPapers)
Date: 2018
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Handle: RePEc:gam:jrisks:v:6:y:2018:i:1:p:23-:d:136998