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PDE Approach to Valuation and Hedging of Credit Derivatives

by Tomasz R. Bielecki of the Illinois Institute of Technology,
Monique Jeanblanc of the UniversitÚ d'╔vry Val d'Essonne, and
Marek Rutkowski of the University of New South Wales & Warsaw University of Technology

June 2005

Abstract: This paper presents a PDE approach in a Markovian setting to hedge defaultable derivatives. The arbitrage price and the hedging strategy for an attainable contingent claim are described in terms of solutions of a pair of coupled PDEs. For some standard examples of defaultable claims, we provide explicit formulae for prices and hedging strategies.

Keywords: Credit derivatives, Hedging, Valuation, PDE approach.

Published in: Quantitative Finance, Vol. 5, No. 3, (June 2005), pp. 257-270.

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