US Corporate Default Swap Valuation: The market liquidity hypothesis and autonomous credit risk

DefaultRisk.com the web's biggest credit risk modeling resource.

Submit Your Paper

Post Your Résumé

For Recruiters

Today's Featured Book

Advanced Analytical Models, + DVD: Over 800 Models and 300 Applications from the Basel II Accord to Wall Street and Beyond
by Johnathan Mun, Wiley, May 2, 2008, Hardcover, 1032 pages

Training Discounted for DefaultRisk.com visitors only:

The Mathematics of Credit Derivatives: The Essential Credit Modelling and Pricing Companion
by Philipp J. Schönbucher,
WBS Training, August 2003, DVD / Interactive CD-ROM

Sponsor:
Shop at Amazon.com and support DefaultRisk.com

US Corporate Default Swap Valuation: The market liquidity hypothesis and autonomous credit risk

by Kwamie Dunbar of the University of Connecticut & Sacred Heart University

January 2007

Abstract: This paper develops a reduced form three-factor model which includes a liquidity proxy of market conditions which is then used to provide implicit prices. The model prices are then compared with observed market prices of credit default swaps to determine if swap rates adequately reflect market risks. The findings of the analysis illustrate the importance of liquidity in the valuation process. Moreover, market liquidity, a measure of investors. willingness to commit resources in the credit default swap (CDS) market, was also found to improve the valuation of investors. autonomous credit risk. Thus a failure to include a liquidity proxy could underestimate the implied autonomous credit risk. Autonomous credit risk is defined as the fractional credit risk which does not vary with changes in market risk and liquidity conditions.

Keywords: Credit Default Swaps, Market Liquidity, Bid-Ask Spreads, Autonomous Credit Risk, Risk Premium.

Books Referenced in this Paper: (what is this?)