A First-Passage-Time Model Under Regime-Switching Market Environment

Posted: 27 Nov 2007 Last revised: 22 Oct 2010

See all articles by Mi Ae KIM

Mi Ae KIM

College of Business, Korea Advanced Institute of Science and Technology (KAIST)

Bong-Gyu Jang

Pohang University of Science and Technology (POSTECH)

Ho-Seok Lee

Korea Advanced Institute of Science and Technology (KAIST) - Department of Management Science

Date Written: November 26, 2007

Abstract

In this paper, we suggest a first-passage-time model which can explain default probability and default correlation dynamics under stochastic market environment. We add a Markov regime-switching market condition to a first-passage-time model of Zhou (2001). Using this model, we try to explain various relationship between default probability, default correlation, and market condition. We also suggest a valuation method for credit default swap (CDS) with(or without) counterparty default risk (CDR) and basket default swap under this model.

Keywords: first passage time model, regime switching, credit default swap, business cycle, default correlation

JEL Classification: C63, E32, E51, G13

Suggested Citation

KIM, Mi Ae and Jang, Bong-Gyu and Lee, Ho-Seok, A First-Passage-Time Model Under Regime-Switching Market Environment (November 26, 2007). Journal of Banking and Finance, Vol. 32, No. 12, 2008. Available at SSRN: https://ssrn.com/abstract=1004677

Mi Ae KIM

College of Business, Korea Advanced Institute of Science and Technology (KAIST) ( email )

85 Hoegiro Dongdaemun-Gu
Seoul 02455
Korea, Republic of (South Korea)

Bong-Gyu Jang (Contact Author)

Pohang University of Science and Technology (POSTECH) ( email )

77 Cheongam-ro
Pohang
Korea, Republic of (South Korea)

Ho-Seok Lee

Korea Advanced Institute of Science and Technology (KAIST) - Department of Management Science ( email )

291 Daehak-ro(373-1 Guseong-dong), Yuseong-gu
Daejeon, 305-701
Korea, Republic of (South Korea)
82-42-869-2766 (Phone)
82-42-869-2710 (Fax)

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