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Pricing credit default swaps with Parisian and Parasian default mechanics

Journal Article


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Abstract


  • This paper proposes Parisian and Parasian default mechanics for modeling the credit risks of the CDS (credit default swap) contracts. Unlike most of the structural models used in the literature, our new model assumes that the default will occur only if the price of the reference asset stays below a certain level for a pre-described period of time. To work out the corresponding CDS price, a general pricing formula containing the unknown no-default probability is derived first. It is then shown that the determination of such a probability is equivalent to the valuation of a Parisian or Parasian down-and-out binary options, depending on how the time is recorded. After the option price is solved with a θ finite difference scheme, the CDS price is obtained through the derived general pricing formula. Finally, some numerical experiments are carried out to study the effects of the new default mechanics on the CDS prices.

Authors


  •   Chen, Wenting (external author)
  •   He, Xinjiang
  •   Lin, Sha (external author)

Publication Date


  • 2019

Citation


  • Chen, W., He, X. & Lin, S. (2019). Pricing credit default swaps with Parisian and Parasian default mechanics. Communications in Statistics: Simulation and Computation, Online First 1-11.

Scopus Eid


  • 2-s2.0-85070992828

Ro Full-text Url


  • https://ro.uow.edu.au/cgi/viewcontent.cgi?article=4208&context=eispapers1

Ro Metadata Url


  • http://ro.uow.edu.au/eispapers1/3189

Number Of Pages


  • 10

Start Page


  • 1

End Page


  • 11

Volume


  • Online First

Place Of Publication


  • United States

Abstract


  • This paper proposes Parisian and Parasian default mechanics for modeling the credit risks of the CDS (credit default swap) contracts. Unlike most of the structural models used in the literature, our new model assumes that the default will occur only if the price of the reference asset stays below a certain level for a pre-described period of time. To work out the corresponding CDS price, a general pricing formula containing the unknown no-default probability is derived first. It is then shown that the determination of such a probability is equivalent to the valuation of a Parisian or Parasian down-and-out binary options, depending on how the time is recorded. After the option price is solved with a θ finite difference scheme, the CDS price is obtained through the derived general pricing formula. Finally, some numerical experiments are carried out to study the effects of the new default mechanics on the CDS prices.

Authors


  •   Chen, Wenting (external author)
  •   He, Xinjiang
  •   Lin, Sha (external author)

Publication Date


  • 2019

Citation


  • Chen, W., He, X. & Lin, S. (2019). Pricing credit default swaps with Parisian and Parasian default mechanics. Communications in Statistics: Simulation and Computation, Online First 1-11.

Scopus Eid


  • 2-s2.0-85070992828

Ro Full-text Url


  • https://ro.uow.edu.au/cgi/viewcontent.cgi?article=4208&context=eispapers1

Ro Metadata Url


  • http://ro.uow.edu.au/eispapers1/3189

Number Of Pages


  • 10

Start Page


  • 1

End Page


  • 11

Volume


  • Online First

Place Of Publication


  • United States