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Modeling default dependence with the mixture of calendar time and business time

  • Mathematics
  • Published:
Wuhan University Journal of Natural Sciences

Abstract

Evaluating default correlation between securities in a portfolio is very important for credit derivatives pricing and risk management. Under the framework of the structural model proposed by Black and Cox, we assume that the asset values of companies are driven by Brownian motions in the worlds of the calendar time and the business time; they then could evolve continuously or by leap. We build the dynamic default correlations using the time-varying correlated Brownian motions in these processes. The sensitivity of default correlations to the key parameters is explored in the paper by numerical examples, and we apply the model to risk management as well. Because default times are unpredictable in the proposed model, the defaults might occur suddenly. Independent defaults and complete correlated defaults can be described in the model as well.

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Authors and Affiliations

  1. College of Finance and Statistics, Hunan University, Changsha, 410079, Hunan, China

    Yong Ma

  2. School of Economics and Management, Hainan University, Haikou, 570228, Hainan, China

    Juan Du

Authors
  1. Yong Ma
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  2. Juan Du
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Correspondence to Yong Ma.

Additional information

Foundation item: Supported by the Fundamental Research Funds for the Central Universities

Biography: MA Yong, male, Assistant professor, research direction: portfolio credit risk and option pricing.

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Ma, Y., Du, J. Modeling default dependence with the mixture of calendar time and business time. Wuhan Univ. J. Nat. Sci. 20, 106–112 (2015). https://doi.org/10.1007/s11859-015-1067-z

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  • DOI: https://doi.org/10.1007/s11859-015-1067-z

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