Dynamic Implied Correlation Modeling and Forecasting in Structured Finance

Journal of Futures Markets 33 (11), 994-1023 (2013)

47 Pages Posted: 10 Nov 2013 Last revised: 19 Nov 2015

See all articles by Sebastian Löhr

Sebastian Löhr

Leibniz Universität Hannover

Olga Mursajew

Leibniz Universität Hannover

Daniel Roesch

University of Regensburg

Harald (Harry) Scheule

University of Technology Sydney (UTS) - School of Finance and Economics; Financial Research Network

Date Written: April 18, 2013

Abstract

Correlations are the main drivers for credit portfolio risk and constitute a Major element in pricing credit derivatives such as synthetic single-tranche collateralized debt obligation swaps. This paper suggests a dynamic panel regression Approach to model and forecast implied correlations. Random effects are introduced to account for unobservable time-specific effects on implied tranche correlations. The implied-correlation forecasts of tranche spreads are compared to forecasts using historical correlations from asset returns. The empirical findings support our proposed dynamic mixed-effects Regression correlation model.

Keywords: Base Correlations, Dynamic Panel Regression, Implied Correlations, Single-tranche Collateralized Debt Obligations, Spread Forecast

JEL Classification: C23, C51, C53, G21, G24

Suggested Citation

Löhr, Sebastian and Mursajew, Olga and Roesch, Daniel and Scheule, Harald, Dynamic Implied Correlation Modeling and Forecasting in Structured Finance (April 18, 2013). Journal of Futures Markets 33 (11), 994-1023 (2013), Available at SSRN: https://ssrn.com/abstract=2349240

Sebastian Löhr

Leibniz Universität Hannover ( email )

Institut fur Rechnungslegung und WP
Koenigsworther Platz 1
Hannover, 30167
Germany

Olga Mursajew

Leibniz Universität Hannover ( email )

Institut fur Rechnungslegung und WP
Koenigsworther Platz 1
Hannover, 30167
Germany

Daniel Roesch (Contact Author)

University of Regensburg ( email )

Chair of Statistics and Risk Management
Faculty of Business, Economics and BIS
Regensburg, 93040
Germany

HOME PAGE: http://www-risk.ur.de/

Harald Scheule

University of Technology Sydney (UTS) - School of Finance and Economics ( email )

P.O. Box 123
Broadway, NSW 2007
Australia

HOME PAGE: http://https://www.uts.edu.au/staff/harald.scheule

Financial Research Network ( email )

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

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