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Credit Modelling

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Financial Mathematics, Derivatives and Structured Products

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Abstract

In this chapter, we study the case of default in credit modelling. Structural models and intensity models are first covered. We then study the pricing of some basket credit products, where correlated default is the main issue.

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Notes

  1. 1.

    Founded by Stephen Kealhofer, John McQuown and Oldřich Vašíček and later acquired by Moody’s.

  2. 2.

    RiskMetrics was established in 1989 by J.P. Morgan and acquired by MSCI in 2010.

  3. 3.

    For a portfolio with tradable transactions only, close-out risk or VaR may be used instead of PFE for the risk limit, for instance, 10 day 90% VaR.

  4. 4.

    For instance, the 10 day 90% VaR of USD100m means that there is 10% probability that the loss will be more than USD100m for the period of 10 (business) days.

  5. 5.

    Our simplified analysis may not reflect the rationale of BCBS (cf. [6] and [34]).

References

  1. Basel Committee on Banking Supervision: An Explanatory Note on the Basel II IRB Risk Weight Functions. BIS (2005) https://www.bis.org/bcbs/irbriskweight.pdf

  2. Brigo D., Pallavicini A., Torresetti, R.: Credit Models and the Crisis: A Journey into CDOs, Copulas, Correlations and Dynamic Models. Wiley, Hoboken (2010)

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  3. Cesari, G., Aquilina, J., Charpillon, N., Filipovic, Z., Lee, G., Manda, I.: Modelling, Pricing, and Hedging Counterparty Credit Exposure. Springer Finance, Berlin/Heidelberg (2009)

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  4. Gordy, M.B.: A risk-factor model foundation for ratings-based bank capital rules. J. Financ. Intermed. 12, 199–232 (2003)

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  5. Hull, J.: Options, Futures, and Other Derivatives, 10th edn. Pearson, New York (2017)

    MATH  Google Scholar 

  6. Merton, R.C.: On the pricing of corporate debt: The risk structure of interest rates. J. Finance 29(2), 449–470 (1974)

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Author information

Authors and Affiliations

  1. City University of Hong Kong, Kowloon Tong, Hong Kong

    Raymond H. Chan

  2. BNP Paribas CIB, Central, Hong Kong

    Yves ZY. Guo

  3. The Chinese University of Hong Kong, Sha Tin, Hong Kong

    Spike T. Lee

  4. The Hong Kong Polytechnic University, Hung Hom, Hong Kong

    Xun Li

Authors
  1. Raymond H. Chan
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  2. Yves ZY. Guo
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  3. Spike T. Lee
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  4. Xun Li
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© 2019 Springer Nature Singapore Pte Ltd.

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Chan, R.H., Guo, Y.Z., Lee, S.T., Li, X. (2019). Credit Modelling. In: Financial Mathematics, Derivatives and Structured Products. Springer, Singapore. https://doi.org/10.1007/978-981-13-3696-6_22

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