Quotation Kurt, Kevin, Frey, Rüdiger, Damian, Camilla. 2019. Sovereign-Bond Backed Securities as a New Safe Asset for the Eurozone: A Dynamic Credit Risk Perspective. SIAM Conference on Financial Mathematics & Engineering, Toronto, Canada, 04.06.-07.06.


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Abstract

The creation of a market in so-called European Safe Bonds (ESBies) is a highly debated proposal to improve the European monetary system. From a credit risk perspective, ESBies form the senior tranche of a CDO backed by a diversified portfolio of sovereign bonds from all members of the euro area. We propose a novel credit risk model for the hazard rates of the obligors to analyze price dynamics and assess the market risk associated to such products. Our model captures salient features of the credit spread dynamics of euro area member states and is at the same time fairly tractable. We consider a reduced-form model with conditionally independent default times; the default intensities of the different obligors are modelled by CIR-type jump processes whose mean-reversion levels and jump intensities are functions of a common Markov process X. Two special cases, one where X is a finite Markov chain and another one where X is an affine process, give rise to semi-explicit (explicit up to the solution of ODE systems) pricing formulae. This in turn allows computationally tractable calibration of the underlying hazard rates via single-name credit products. The pricing of credit portfolio products is done by Fourier inversion methods. Additionally, we provide hedging results for the junior tranche of the underlying bond portfolio.

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Publication's profile

Status of publication Published
Affiliation WU
Type of publication Paper presented at an academic conference or symposium
Language English
Title Sovereign-Bond Backed Securities as a New Safe Asset for the Eurozone: A Dynamic Credit Risk Perspective
Event SIAM Conference on Financial Mathematics & Engineering
Year 2019
Date 04.06.-07.06
Country Canada
Location Toronto
URL https://www.siam.org/conferences/cm/program/program-and-abstracts/fm19-program-abstracts

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People
Kurt, Kevin (Details)
Frey, Rüdiger (Details)
Damian, Camilla (Details)
Organization
Institute for Statistics and Mathematics IN (Details)
Research areas (ÖSTAT Classification 'Statistik Austria')
1137 Financial mathematics (Details)
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