Using the reduced form framework with inter-dependent default correlation, we perform valuation of credit default swap with counterparty risk. The inter-dependent default risk structure between the protection buyer, protection seller and the reference entity in a credit default swap are characterized by their correlated default intensities, where the default intensity of one party increases whe...

Copyright © 2006 R ecently, an unusually high number of firms in the economy defaulted, with the default rate for Moody’s-rated speculativegrade issuers reaching as high as 10.2% in 2001. In their annual review, Moody’s summarized these credit events as follows, “Record defaults —unmatched in number and dollar volume since the Great Depression—have culminated in the bankruptcies of well-known f...

This paper uses a general equilibrium model with collateralized borrowing to show that increases in risk can have ambiguous effects on leverage, loan margins, loan amounts, and asset prices. Increasing risk about future payoffs and endowments can lead to riskier loans with larger balances and lower spreads even when lenders are riskaverse and borrowers can default. As well, increasing the covar...

The literature on credit risk consists of different approaches in modeling the behavior of defaultable bonds. The structural approach is based on the evolution of the firm value to determine default and recovery. In contrast, the more recently developed intensity-based models specify the default time exogenously. In this approach the defaultable yield curve results from the risk-free yield curv...