Credit Derivatives in an Affine Framework

by Li Chen of Lehman Brothers, and
Damir Filipović of the University of Munich

August 2, 2007

Abstract: An efficient method for valuing credit derivatives based on three entities is developed in an affine framework. This includes interdependence of market and credit risk, joint credit migration and counterparty default risk of three firms. As an application we provide closed form expressions for the joint distribution of default times, default correlations, and default swap spreads in the presence of counterparty default risk.

Keywords: affine intensity based models, counterparty risk, credit derivatives, default dependence.

Published in: Asia-Pacific Financial Markets, Vol. 14, No. 1-2, (March 2007), pp. 123-140.

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