On pricing of credit spread options [An article from: European Journal of Operational Research]

by R. Giacometti, M. Teocchi

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This digital document is a journal article from European Journal of Operational Research, published by Elsevier in 2005. The article is delivered in HTML format and is available in your Amazon.com Media Library immediately after purchase. You can view it with any web browser.

Description:
This paper describes and analyses different pricing models for credit spread options such as Longstaff-Schwartz, Black, Das-Sundaram and Duan (GARCH-based) models. The first two models, Longstaff-Schwartz and Black, assume respectively a mean-reverting dynamic and a lognormal distribution for the spread and are representative of the so-called ''spread models''. Such models consider the spread as a unique variable and provide closed form solutions for option pricing. On the contrary Das-Sundaram propose a recursive backward induction procedure to price credit spread options on a bivariate tree, which describes the dynamic of the term structure of forward risk-neutral spread and risk-free rate. This model belongs to the class of structural models, which can be used to price a wider range of credit risk derivatives. Finally, we consider the pricing of credit spread options assuming a discrete time GARCH model for the spread.

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