ON DEFAULT CORRELATION AND PRICING OF COLLATERALIZED DEBT OBLIGATION BY COPULA FUNCTIONS

Ping Li, Housheng Chen, Xiaotie Deng () and Shunming Zhang ()
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Ping Li: Department of Finance, Beihang University, Beijing 100083, China
Housheng Chen: Department of Finance, Beihang University, Beijing 100083, China
Xiaotie Deng: Department of Computer Science, City University of Hong Kong, Tat Chee Avenue, Kowloon, Hong Kong, China

International Journal of Information Technology & Decision Making (IJITDM), 2006, vol. 05, issue 03, 483-493

Abstract: Default correlation is the key point for the pricing of multi-name credit derivatives. In this paper, we apply copulas to characterize the dependence structure of defaults, determine the joint default distribution, and give the price for a specific kind of multi-name credit derivative — collateralized debt obligation (CDO). We also analyze two important factors influencing the pricing of multi-name credit derivatives, recovery rates and copula function. Finally, we apply Clayton copula, in a numerical example, to simulate default times taking specific underlying recovery rates and average recovery rates, then price the tranches of a given CDO and then analyze the results.

Keywords: Collateralized debt obligation (CDO); default correlation; copula; recovery rate; multi-name credit derivatives (search for similar items in EconPapers)
Date: 2006
References: View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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DOI: 10.1142/S0219622006002076

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