Updating the Option Implied Probability of Default Methodology

Johannes Vilsmeier

No 107, Working Papers from Bavarian Graduate Program in Economics (BGPE)

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)
JEL-codes: C51 C52 C61 G12 G24 G32 (search for similar items in EconPapers)
Pages: 26 pages
Date: 2011-10
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:bav:wpaper:107_vilsmeier

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