The study analyzes pricing and hedging of STCDOs using an affine model with a catastrophic risk component.
problem Pricing and hedging of collateralized debt obligations (CDOs) with specific focus on mezzanine and equity tranches.
method Specified an affine two-factor model with a catastrophic risk component, estimated using QML and Kalman filter, derived variance-minimizing strategy, analyzed actual performance and simulated extreme loss scenarios.
result The variance-minimizing strategy is most effective for mezzanine tranches but fails for equity tranches.
Quantum computing speeds up CDO pricing models.
problem Efficiently pricing complex financial products like CDOs.
method Implemented quantum circuits for Gaussian and Normal Inverse Gaussian copula models, using quantum amplitude estimation.
result Quantum computing can significantly speed up CDO pricing compared to Monte Carlo simulations.
This paper considers the modelling of collateralized debt obligations (CDOs). We propose a top-down model via forward rates generalizing Filipović, Overbeck and Schmidt (2009) to the case where the forward rates are driven by a finite dimensional Lévy process. The contribution of this work is twofold: we provide condit…
Proposes a decentralized insurance protocol for DeFi.
problem Over-insurance and inefficiencies in DeFi collateral.
method Smart contract-based economic model without external dependencies.
result Solves over-insurance and capital inefficiencies.
The problem of existence of arbitrage free and monotone CDO term structure models is studied. Conditions for positivity and monotonicity of the corresponding Heath-Jarrow-Morton-Musiela equation for the x-forward rates with the use of the Milian type result are formulated. Two state spaces are taken into account - of…
Debt-financed collateral in DeFi increases stability risks.
problem Financial stability risks in DeFi ecosystems due to debt-financed collateral.
method Categorization and classification algorithm to measure debt-financed collateral.
result Wide-spread use of stablecoins as debt-financed collateral increases financial stability risks.
The paper examines how CoCo bonds can enhance financial stability in interconnected banking systems.
problem Enhancing financial stability in interconnected banking systems.
method Financial network model with contingent convertible (CoCo) debt obligations.
result Replacing unsecured interbank debt with CoCo debt decreases systemic risk and increases bank shareholder value.
Arora, Barak, Brunnermeier, and Ge showed that taking computational complexity into account, a dishonest seller could strategically place lemons in financial derivatives to make them substantially less valuable to buyers. We show that if the seller is required to construct derivatives of a certain form, then this pheno…
We consider a class of participation rights, i.e. obligations issued by a company to investors who are interested in performance-based compensation. Albeit having desirable economic properties equity-based debt obligations (EbDO) pose challenges in accounting and contract pricing. We formulate and solve the associated …
We propose a novel credit default model that takes into account the impact of macroeconomic information and contagion effect on the defaults of obligors. We use a set-valued Markov chain to model the default process, which is the set of all defaulted obligors in the group. We obtain analytic characterizations for the d…
We explore the possibilities of importance sampling in the Monte Carlo pricing of a structured credit derivative referred to as Collateralized Debt Obligation (CDO). Modeling a CDO contract is challenging, since it depends on a pool of (typically about 100) assets, Monte Carlo simulations are often the only feasible ap…
The stability of the financial system is associated with systemic risk factors such as the concurrent default of numerous small obligors. Hence it is of utmost importance to study the mutual dependence of losses for different creditors in the case of large, overlapping credit portfolios. We analytically calculate the m…
We follow a long path for Credit Derivatives and Collateralized Debt Obligations (CDOs) in particular, from the introduction of the Gaussian copula model and the related implied correlations to the introduction of arbitrage-free dynamic loss models capable of calibrating all the tranches for all the maturities at the s…
Paper improves CDO calibration using Magnus Expansion and Deep Learning.
problem Calibrating CDO to iTraxx market data.
method Large basket approximation, SPDE, Magnus expansion, Deep Learning.
result Highly accurate calibration to market data.
This paper examines the dividend and investment policies of a cash constrained firm that has access to costly external funding. We depart from the literature by allowing the firm to issue collateralized debt to increase its investment in productive assets resulting in a performance sensitive interest rate on debt. We f…
This study examines liquidation risks in DeFi lending markets.
problem Liquidity risks in decentralized finance lending protocols.
method Quantitative analysis of liquidation data from four major DeFi platforms.
result Current liquidation mechanisms incentivize liquidators but lead to excessive collateral sales.
We analyze the counterparty risk embedded in CDS contracts, in presence of a bilateral margin agreement. First, we investigate the pricing of collateralized counterparty risk and we derive the bilateral Credit Valuation Adjustment (CVA), unilateral Credit Valuation Adjustment (UCVA) and Debt Valuation Adjustment (DVA).…
This research introduces a control system for managing DeFi money supply.
problem Maintaining the value of issued currency in decentralized finance.
method Introduces a time-weighted Proportional-Integral-Derivative (PID) control system.
result Protects the value of issued currency by adapting to market activities.
The interbank market is considered one of the most important channels of contagion. Its network representation, where banks and claims/obligations are represented by nodes and links (respectively), has received a lot of attention in the recent theoretical and empirical literature, for assessing systemic risk and identi…
Swapping debt contracts can mitigate risk in financial networks.
problem Mitigating risk in financial networks through debt swaps.
method Analysis of debt swapping operations in financial networks under various conditions.
result Positive debt swaps can exist in worst-case shock models to minimize losses.
In the aftermath of the 2007 global financial crisis, banks started reflecting into derivative pricing the cost of capital and collateral funding through XVA metrics. Here XVA is a catch-all acronym whereby X is replaced by a letter such as C for credit, D for debt, F for funding, K for capital and so on, and VA stands…
The paper models default probabilities and total defaults in credit portfolios using a contagion process with self-exciting jumps.
problem Modeling default probabilities and total defaults in credit portfolios to mitigate credit risk.
method Developed a contagion process with self-exciting jumps to model credit events and derive closed-form expressions for default probabilities and total defaults.
result The proposed framework captures the feedback effect and can be used to price synthetic CDOs.
Mitigates DeFi liquidations with reversible call options.
problem Systemic failures in DeFi due to liquidations.
method Introduces reversible call options to prevent liquidations.
result Reduces liquidated collateral by 89.82% in simulations.
Bitcoin treasury companies leverage stock to grow, using advanced statistical methods.
problem Leverage in Bitcoin treasury companies.
method Extended Kelly criterion to incorporate uncertainty.
result Advanced statistical methods can better model leverage in Bitcoin treasury companies.
In this paper we describe how to include funding and margining costs into a risk-neutral pricing framework for counterparty credit risk. We consider realistic settings and we include in our models the common market practices suggested by the ISDA documentation without assuming restrictive constraints on margining proce…
We consider a structural default model in an interconnected banking network as in Lipton [International Journal of Theoretical and Applied Finance, 19(6), 2016], with mutual obligations between each pair of banks. We analyse the model numerically for two banks with jumps in their asset value processes. Specifically, we…
Networked-guarantee loans may cause the systemic risk related concern of the government and banks in China. The prediction of default of enterprise loans is a typical extremely imbalanced prediction problem, and the networked-guarantee make this problem more difficult to solve. Since the guaranteed loan is a debt oblig…
Paper introduces Cycles Protocol to integrate trade credit into market clearing.
problem Liquidity embedded in trade credit outside formal settlement infrastructures.
method Distributed, multilateral clearing mechanism based on double-entry accounting.
result Cycles Protocol maximizes balance sheet compression without redistributing counterparty risk.
Credit and liquidity risks represent main channels of financial contagion for interbank lending markets. On one hand, banks face potential losses whenever their counterparties are under distress and thus unable to fulfill their obligations. On the other hand, solvency constraints may force banks to recover lost funding…
We study a coin-tossing model used by a ratings agency to justify the sale of constant proportion debt obligations (CPDOs), and prove that it was impossible for CPDOs to achieve in a finite lifetime the Cash-In event of doubling its capital. In the best-case scenario of a two-headed coin, we show that the goal of attai…
We propose a model of inter-bank lending and borrowing which takes into account clearing debt obligations. The evolution of log-monetary reserves of N banks is described by coupled diffusions driven by controls with delay in their drifts. Banks are minimizing their finite-horizon objective functions which take into a…
The paper introduces risk consistency properties for credit ratings.
problem Promoting prudent investment decisions in credit ratings.
method Introducing and studying risk consistency properties in the framework of Choquet rating criteria.
result Characterization of Choquet risk measures and rating criteria satisfying risk consistency properties.
This paper considers mutual obligations in the interconnected bank system and analyzes their influence on joint and marginal survival probabilities as well as CDS and FTD prices for the individual banks. To make the role of mutual obligations more transparent, a simple structural default model with banks' assets driven…
The writers propose a mathematical Method for deriving risk weights which describe how a borrower's income, relative to their debt service obligations (serviceability) affects the probability of default of the loan. The Method considers the borrower's income not simply as a known quantity at the time the loan is made, …
Botswana's agricultural credit scheme is unsustainable and needs reform.
problem The current scheme is unsustainable and based on flawed actuarial principles.
method Proposes a new subsidy and premium rate setting method considering non-drought years.
result A sustainable agricultural credit guarantee scheme is recommended.
Paper analyzes fire sales in a network of banks using VWAP and LOB pricing.
problem Optimal asset liquidation and borrowing strategies in a network of banks.
method Nash equilibrium model with two market clearing mechanisms.
result Existence and uniqueness of clearing solutions for liquidations, borrowing, prices, and haircuts.
This study examines the collateral choice option and its valuation and hedging.
problem Non-zero collateral basis spreads impact asset valuation and require complex modeling.
method Develops a stochastic valuation model for the collateral choice option and proposes hedging strategies.
result The stochastic model attributes risks to all involved collateral currencies, unlike the deterministic model.
We study how network structure affects the dynamics of collateral in presence of rehypothecation. We build a simple model wherein banks interact via chains of repo contracts and use their proprietary collateral or re-use the collateral obtained by other banks via reverse repos. In this framework, we show that total col…
Analyzes incentives and strategies in financial networks.
problem Deciding default status and liabilities in a network of banks.
method Refined model of financial systems with priority assignments.
result Actions by banks can influence their own outcomes.
Develops a new model for collateral choice options under stochastic rates.
problem Challenges in quantifying the value of collateral choice options under stochastic rates.
method Develops a scalable and stable stochastic model of collateral spreads under conditional independence, using a common factor approximation.
result Second order model yields accurate results for the value of the collateral choice option.
Cash collateral is perfect in that it provides simultaneous counterparty credit risk protection and derivatives funding. Securities are imperfect collateral, because of collateral segregation or differences in CSA haircuts and repo haircuts. Moreover, the collateral rate term structure is not observable in the repo mar…
This paper presents a new model for pricing financial derivatives subject to collateralization. It allows for collateral arrangements adhering to bankruptcy laws. As such, the model can back out the market price of a collateralized contract. This framework is very useful for valuing outstanding derivatives. Using a uni…
The importance of collateralization through the change of funding cost is now well recognized among practitioners. In this article, we have extended the previous studies of collateralized derivative pricing to more generic situation, that is asymmetric and imperfect collateralization with the associated counter party c…
Study on collateral currency impact in differential swaps valuation.
problem Impact of collateral currency on differential swap valuation and risk management.
method Replication using futures, explicit pricing and hedging strategies.
result Choice of collateral currency can introduce additional risk exposures.
The AAA credit rating may have been overly precise given available data.
problem The feasibility of achieving high reliability targets for structured credit products.
method Bayes' theorem and historical data analysis.
result High reliability targets for structured products require substantial statistical discrimination, which was not achievable with available data.
Changes in collateralization have been implicated in significant default (or near-default) events during the financial crisis, most notably with AIG. We have developed a framework for quantifying this effect based on moving between Merton-type and Black-Cox-type structural default models. Our framework leads to a singl…
Study multi-currency markets with multiple interest rates and collateral.
problem Characterize absence of arbitrage in a multi-currency market.
method Generalize results from Bielecki and Rutkowski (2015) to a multi-currency framework, linking with Piterbarg (2012), Moreni and Pallavicini (2017), and Fujii et al. (2010b). Characterize absence of arbitrage without collateral, then study collateralization schemes under various conventions.
result Complete study of absence of arbitrage and pricing in multi-currency markets with multiple interest rates and collateral.
A mechanism to share risks and costs with guarantees against extreme outcomes.
problem Softening extreme individual burdens in risk sharing schemes.
method Formalizes Certified Allocation Problem; uses Conformal Risk Sharing with interpretable sharing policy and split conformal calibration.
result Reduces extreme obligations for high-risk agents while controlling harm to others.