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Dynamic Hedging of Portfolio Credit Risk in a Markov Copula Model

Journal article
Authors Tomasz R. Bielecki
Areski Cousin
Stéphane Crépey
Alexander Herbertsson
Published in Journal of Optimization Theory and Applications
Volume 161
Issue 1
Pages 90-102
ISSN 0022-3239
Publication year 2014
Published at Department of Economics
Pages 90-102
Language en
Keywords Portfolio credit risk, Credit derivatives, Markov copula model, Common shocks Dynamic hedging
Subject categories Applied mathematics, Mathematical statistics, Economics and Business


We devise a bottom-up dynamic model of portfolio credit risk where instantaneous contagion is represented by the possibility of simultaneous defaults. Due to a Markovian copula nature of the model, calibration of marginals and dependence parameters can be performed separately using a two-step procedure, much like in a standard static copula setup. In this sense this solves the bottom-up top-down puzzle which the CDO industry had been trying to do for a long time. This model can be used for any dynamic portfolio credit risk issue, such as dynamic hedging of CDOs by CDSs, or CVA computations on credit portfolios.

Page Manager: Webmaster|Last update: 9/11/2012

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