Pricing Credit Derivatives with Rating Transitions

33 Pages Posted: 5 Nov 2008

See all articles by Viral V. Acharya

Viral V. Acharya

New York University - Leonard N. Stern School of Business; New York University (NYU) - Department of Finance; Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); National Bureau of Economic Research (NBER)

Sanjiv Ranjan Das

Santa Clara University - Leavey School of Business

Rangarajan K. Sundaram

New York University (NYU) - Department of Finance

Multiple version iconThere are 7 versions of this paper

Date Written: November 2001

Abstract

We develop a model for pricing risky debt and valuing credit derivatives that is easily calibrated to existing variables. Our approach is based on expanding the Das and Sundaram (2000) extension of the Heath-Jarrow-Morton (1990) term-structure model to allow for multiple ratings classes of debt. The framework has two salient features: (i) it employs a ratings transition matrix as the driver or the default process, and (ii) the entire set of rating categories is calibrated jointly, allowing arbitrage-free restrictions across rating classes, as a bond migrates amongst them. We provide an illustration of the approach by applying it to price credit-sensitive notes that have coupon payments that are linked to the rating of the underlying credit.

Keywords: Risky debt, Rating Transitions

Suggested Citation

Acharya, Viral V. and Das, Sanjiv Ranjan and Sundaram, Rangarajan K., Pricing Credit Derivatives with Rating Transitions (November 2001). NYU Working Paper No. S-CDM-01-07. Available at SSRN: https://ssrn.com/abstract=1295824

Viral V. Acharya (Contact Author)

New York University - Leonard N. Stern School of Business ( email )

44 West 4th Street
Suite 9-160
New York, NY NY 10012
United States

HOME PAGE: http://pages.stern.nyu.edu/~sternfin/vacharya/public_html/~vacharya.htm

New York University (NYU) - Department of Finance

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States

Centre for Economic Policy Research (CEPR)

London
United Kingdom

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
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1000 Brussels
Belgium

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Sanjiv Ranjan Das

Santa Clara University - Leavey School of Business ( email )

Department of Finance
316M Lucas Hall
Santa Clara, CA 95053
United States

HOME PAGE: http://algo.scu.edu/~sanjivdas/

Rangarajan K. Sundaram

New York University (NYU) - Department of Finance ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0308 (Phone)
212-995-4233 (Fax)

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