On The Pricing of Credit Spread Options: a Two Factor HW-BK Algorithm

by João Garcia of Artesia BC,
Helmut Van Ginderen of Artesia BC, and
Reinaldo Garcia of the University of California, Berkeley.

December 2, 2001

Summary: In this article we describe what a credit spread option (CSO) is and show a tree algorithm to price it. The tree algorithm we have opted for is a two factor model composed by a Hull and White (HW) one factor for the interest rate process and a Black-Karazinsky (BK) one factor for the default intensity. Market data is used to calibrate the model to price an at the money (ATM) European CSO and then tested to price an out of the money (OTM) American CSO on a CDS.

Published in: International Journal of Theoretical and Applied Finance, Vol. 6, No. 5, (August 2003), pp. 491-505.

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

Download paper (149K PDF) 18 pages