Pricing Financial Derivatives Subject to Multilateral Credit Risk and CollateralizationPricing Financial Derivatives Subject to Multilateral Credit Risk and Collateralization

5a4afb42f2c177a6ef0e535bd23f1316?s=47 Tim
November 10, 2019

Pricing Financial Derivatives Subject to Multilateral Credit Risk and CollateralizationPricing Financial Derivatives Subject to Multilateral Credit Risk and Collateralization

This article presents a new model for valuing financial contracts subject to credit risk and collateralization. Examples include the valuation of a credit default swap (CDS) contract that is affected by the trilateral credit risk of the buyer, seller and reference entity. We show that default dependency has a significant impact on asset pricing. In fact, correlated default risk is one of the most pervasive threats in financial markets. We also show that a fully collateralized CDS is not equivalent to a risk-free one. In other words, full collateralization cannot eliminate counterparty risk completely in the CDS market.

5a4afb42f2c177a6ef0e535bd23f1316?s=128

Tim

November 10, 2019
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