Article2008

An Empirical Analysis of the Pricing of Collateralized Debt Obligations

299 citations0/0 files storedThe Journal of Finance

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Credit Risk and Financial Regulations Stochastic processes and financial applications Financial Risk and Volatility Modeling

Abstract

ABSTRACT We use the information in collateralized debt obligations (CDO) prices to study market expectations about how corporate defaults cluster. A three‐factor portfolio credit model explains virtually all of the time‐series and cross‐sectional variation in an extensive data set of CDX index tranche prices. Tranches are priced as if losses of 0.4%, 6%, and 35% of the portfolio occur with expected frequencies of 1.2, 41.5, and 763 years, respectively. On average, 65% of the CDX spread is due to firm‐specific default risk, 27% to clustered industry or sector default risk, and 8% to catastrophic or systemic default risk.

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References

1984Financial Intermediation and Delegated Monitoring 1985A Theory of the Term Structure of Interest Rates 1979Manias, Panics, and Crashes: A History of Financial Crises 2000Transform Analysis and Asset Pricing for Affine Jump-diffusions 1999Modeling Term Structures of Defaultable Bonds 2001The Determinants of Credit Spread Changes 2004Corporate Yield Spreads: Default Risk or Liquidity? New Evidence from the Credit Default Swap Market 2001Explaining the Rate Spread on Corporate Bonds

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2011Counterparty credit risk and the credit default swap market 2008Accounting-based versus market-based cross-sectional models of CDS spreads 2018Exploring the sources of default clustering 2012Systemic risk measures: The simpler the better?2014Credit Default Swaps: A Survey 2013Rating Shopping or Catering?An Examination of the Response to Competitive Pressure for CDO Credit Ratings

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