A Simple Exponential Model for Dependent Defaults

Abstract

A thorough understanding of the joint default behavior of credit-risky securities is essential for credit risk measurement as well as the valuation of many credit derivatives and collateralized debt obligations. A simple and tractable intensity-based model predicts correlated defaults in which unpredictable default arrival times are jointly exponentially distributed. All relevant results are given in closed form, so the model can be easily implemented. The efficient simulation of dependent default times for pricing and risk management purposes is straightforward as well. Parameter calibration relies on market data as well as data from the rating agencies and credit risk management solutions.