Reference : Credit derivatives with multiple debt issues
Scientific journals : Article
Business & economic sciences : Finance
Credit derivatives with multiple debt issues
François, Pascal [ > > ]
Hübner, Georges mailto [Université de Liège - ULg > HEC - Ecole de gestion de l'ULg > Gestion financière >]
Journal of Banking & Finance
Elsevier Science Bv
Yes (verified by ORBi)
[en] credit derivatives ; structural models ; debt structure ; options ; swaps
[en] We evaluate the most actively traded types of credit derivatives within a unified pricing framework that allows for multiple debt issues. Since firms default on all of their obligations, total debt is instrumental in the likelihood of default and therefore in credit derivatives valuation. We use a single factor interest rate model where the exponential default frontier is based on total debt and is made coherent with observed bond prices. Analytical formulae are derived for credit default swaps, total return swaps (both fixed-for-fixed and fixed-for-floating), and credit risk options (CROs). Price behaviors and hedging properties of all these credit derivatives are investigated. Simulations document that credit derivatives prices may be significantly affected by terms of debt other than those of the reference obligation. The analysis of CROs indicates their superior ability to fine-tune the hedging of magnitude and arrival risks of default. (C) 2003 Elsevier B.V. All rights reserved.

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