Abstract
Based on the framework of [7], we discuss pricing bilateral counterparty risk of CDS, where each individual default intensity is modeled by a shifted CIR process with jump (JCIR++), and the correlation between the default times is modeled by a copula function. We present a semi-analytical formula for pricing bilateral counterparty risk of CDS, which is more convenient to compute through calculating multiple numerical integration or using Monte-Carlo simulation without simulating default times. Moreover, we obtain simpler formulae under FGM copulas, Bernstein copulas and CA,B copulas, which can be applied for speeding up the computation and reducing the pricing error. Numerical results under FGM copulas and CA,B copulas show that our method performs better both in computation speed and accuracy.
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The authors thank the two referees for their valuable comments and suggestions which lead to the improvement of the paper.
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Yang’s research was supported by the National Natural Science Foundation of China (Grants No. 11671021, 11271033) and National Social Science Fund of China (Grant No. 16ZDA052).
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Lin, F., Xie, Sy. & Yang, Jp. Semi-analytical Formula for Pricing Bilateral Counterparty Risk of CDS with Correlated Credit Risks. Acta Math. Appl. Sin. Engl. Ser. 34, 209–236 (2018). https://doi.org/10.1007/s10255-018-0756-8
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DOI: https://doi.org/10.1007/s10255-018-0756-8