In April 2001 Swiss banks held over CHF 500 billion in mortgages. This important segment accounts for about 63% of all the loan portfolios of Swiss banks. In this paper we restrict our attention to residential mortgages held by private clients, i.e. borrowers who finance their property by the loan and we model the probability distribution of the number of defaults using a non-parametric intensi...

We consider counterparty risk for interest rate payoffs in presence of correlation between the default event and interest rates. The previous analysis of Brigo and Masetti (2006), assuming independence, is further extended to interest rate payoffs different from simple swap portfolios. A stochastic intensity model with possible jumps is adopted for the default event. We find that correlation be...

A framework is provided for pricing derivatives on defaultable bonds and other credit-risky contingent claims. The framework includes structural models (those in which the time of default is determined by the value of the issuing firm), general reduced-form models (those in which default is exogenous), and reducedform models in which default can occur only at specific times, such as coupon paym...

We model dynamic credit portfolio dependence by using default contagion in an intensity-based framework. Two different portfolios (with 10 obligors), one in the European auto sector, the other in the European financial sector, are calibrated against their market CDS spreads and the corresponding CDS-correlations. After the calibration, which are perfect for the banking portfolio, and good for t...

We propose a multi-firm first-passage credit model in which investors have incomplete information. In this model, investors cannot observe a firm’s value process and its default barrier process. The model accounts for the short term risk inherent in default events, the market-wide impact of defaults on security prices due to counterparty relations between firms, and the cyclical default correla...

We consider counterparty risk for Credit Default Swaps (CDS) in presence of correlation between default of the counterparty and default of the CDS reference credit. Our approach is innovative in that, besides default correlation, which was taken into account in earlier approaches, we also model credit spread volatility. Stochastic intensity models are adopted for the default events, and default...

This paper develops a novel class of hybrid credit-equity models with state-dependent jumps, local-stochastic volatility and default intensity based on time changes of Markov processes with killing. We model the defaultable stock price process as a time changed Markov diffusion process with state-dependent local volatility and killing rate (default intensity). When the time change is a Lévy sub...

In general, contingent claims on assets which may default during the duration of the contract cannot be priced and hedged consistently. This is due to the fact that the possibility of a default event brings in an extra uncertain factor, and there are therefore too few assets to construct a hedge against all sources of uncertainty. In this paper we show that consistent pricing and hedging is sti...

This paper employs non-parametric specification tests developed in Hong and Li (2005) to evaluate several one-factor reduced-form credit risk models for actual default intensities. Using estimates for actual default probabilities provided by Moody’s KMV from 1994 to 2005 for 106 U.S. firms in seven industry groups, we strongly reject popular univariate affine model specifications. As a good com...

A thorough understanding of the joint default behavior of credit-risky securities is essential for credit risk measurement as well as the valuation of multi-name credit derivatives and Collateralized Debt Obligations. In this paper we study a simple and tractable intensity-based model for correlated defaults, in which unpredictable default arrival times are jointly exponentially distributed. Si...