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Joint Estimation of Default and Recovery Risk: A Simulation Study

by Jens Henrik Eggert Christensen of the Copenhagen Business School

October 31, 2005

Abstract: A joint modeling and estimation of recovery risk, default intensity risk, and interest rate risk has so far been a neglected issue in the empirical credit risk literature. This paper presents a framework in which all three types of risk can be modeled. It is argued that under the assumption of recovery of face value it is theoretically possible to jointly estimate both recovery and default intensity risk. Given simulated data, a model containing all three types of risk is estimated; the results show that default and recovery risk can in fact be separated.

Previously titled: Recovery Risk Modeling: An Application of the Quadratic Class

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