Download PDF by Svenja Hager (auth.): Pricing Portfolio Credit Derivatives by Means of

By Svenja Hager (auth.)

ISBN-10: 3834909157

ISBN-13: 9783834909152

ISBN-10: 3834997021

ISBN-13: 9783834997029

With the hot improvement of non-standard credits derivatives, it has turn into more and more vital to enhance pricing types for those illiquid items that are in step with the pricing types and the industry charges of comparable liquid tools.

Svenja Hager goals at pricing non-standard illiquid portfolio credits derivatives that are concerning general CDO tranches with a similar underlying portfolio of obligors. rather than assuming a homogeneous dependence constitution among the default instances of alternative obligors, because it is thought within the ordinary industry version, the writer specializes in using heterogeneous correlation buildings. The goal is to discover a correlation matrix sufficiently versatile in order that all tranche spreads of a CDO constitution could be reproduced concurrently. this enables for constant pricing. The calibrated version can then be used to figure out the cost of non-standard contracts. As there is not any ordinary optimization strategy to derive the correlation constitution from marketplace costs, Evolutionary Algorithms are applied.

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Additional info for Pricing Portfolio Credit Derivatives by Means of Evolutionary Algorithms

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5 partially follows Cousseran and Rahmouni (2005), Hyder (2002), and O’Kane (2001). In the case of a CDO with cash structure (cf. 3), the originator transfers the credit risk of the underlying portfolio via the true sale of assets to a SPV. In return, the SPV issues the CDO securities, which are then sold to investors. Not all CDO tranches must be sold in the form of notes. Credit risk can also be transferred by means of credit derivatives. A synthetic CDO absorbs the economic risk but not the legal ownership of the reference portfolio.

2 Cash Flow and Market Value CDOs CDOs can have either cash flow or market value structures. This classification describes how the CDO tranches are protected from potential losses. In a cash flow transaction, the CDO tranches are sized so that interest and principal cash flows from the collateral assets are expected to cover the tranche requirements. The expectation is based on an assessment of the default probability, the recovery rate, and the default correlation between the assets. If the quality of the assets declines, the cash flows are diverted from subordinate notes to senior notes.

Since the risk changes over time, dynamic hedging has to be applied. The amount of protection to be sold is determined by the delta, which describes the sensitivity of the tranche value to changes in the spreads of the underlying assets. A neutral position can be created by selling protection for delta times the tranche nominal. Generally, the tranche delta is higher than unity (often tranches are sold at the mezzanine level), so single-tranche deals are classified as leveraged products. In this setup, the arranger tries to earn a profit by buying protection on only one single CDO tranche and by reselling protection on each of the individual reference entities included in the underlying portfolio.

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Pricing Portfolio Credit Derivatives by Means of Evolutionary Algorithms by Svenja Hager (auth.)

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