A First-Passage-Time Model Under Regime-Switching Market Environment
Posted: 27 Nov 2007 Last revised: 22 Oct 2010
Date Written: November 26, 2007
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
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