A comparative analysis of correlation skew modeling techniques for CDO index tranches

Claudio, Ferrarese (2006): A comparative analysis of correlation skew modeling techniques for CDO index tranches.

Abstract

In this work we present an analysis of CDO pricing models with a focus on “correlation skew models”. These models are extensions of the classic single factor Gaussian copula and may generate a skew. We consider examples with fat tailed distributions, stochastic and local correlation which generally provide a closer fit to market quotes. We present an additional variation of the stochastic correlation framework using normal inverse Gaussian distributions. The numerical analysis is carried out using a large homogeneous portfolio approximation.

• Item Type: MPRA Paper
• Institution: King’s College London
• Language: English
• Keywords: default risks; CDOs; index tranches; factor model; copula; correlation skew; stochastic correlation
• Subjects: C - Mathematical and Quantitative Methods > C6 - Mathematical Methods ; Programming Models ; Mathematical and Simulation Modeling > C60 - General; C - Mathematical and Quantitative Methods > C0 - General > C02 - Mathematical Methods; G - Financial Economics > G1 - General Financial Markets > G12 - Asset Pricing ; Trading Volume ; Bond Interest Rates

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