0

# What is the base correlation in a credit derivative pricing model?

Updated: 10/18/2022

Pandoga

Lvl 1
17y ago

While compound correlation is the correlation found by calibrating the Gaussian copula model to the price of a CDO tranche (for example 3-6%), base correlation is found by calibrating to the price of a first loss tranche, i.e. to the sum of all tranches up to an attachment point (for example 0-6%, the sum of 0-3% and 3-6%). The curve of correlations obtained by calibrating to first loss tranches turns out to be much smoother and more stable than that obtained by calibrating to plain tranches.

Wiki User

17y ago

Earn +20 pts
Q: What is the base correlation in a credit derivative pricing model?
Submit
Still have questions?
Related questions

### What is an arbitrage pricing theory?

An arbitrage pricing theory is a theory of asset pricing serving as a framework for the arbitrage pricing model.

### What is the Capital Asset pricing model used for?

The Capital Asset Pricing Model is a pricing model that describes the relationship between expected return and risk. The CAPM helps determine if investments are worth the risk.

### How do you price a basket of credit default swaps for example an n-th to default structure?

The main references are:David X. Li "Pricing Basket Credit Derivatives"Hull-White "Credit Default Swap II"However, pricing a multiname credit derivative product basically boils down to efficiently implementing a MonteCarlo simulation for correlated random variables. The main decision to be taken is how to model correlations. A Gaussian copula is at the moment the market standard. Most practioners use it, although many of them dislike it. Research in this field is still at a very preliminary stage. The fact is that the Gaussian copula model is easy to calibrate and allows for straightforward comparative statics (e.g. calculation of the delta) while other more realistic and complicated models (such as Darrel Duffies' affine models) are still very difficult to calibrate and use.

### What has the author Haim Levy written?

Haim Levy has written: 'Relative effectiveness of efficiency criteria for portfolio selection' -- subject(s): Investments, Mathematical models, Stocks 'Investment and portfolio analysis' -- subject(s): Investment analysis, Portfolio management 'Research in Finance' 'The capital asset pricing model' 'The capital asset pricing model in the 21st century' -- subject(s): Capital assets pricing model, Capital asset pricing model

### What do you know about a linear model from the correlation coefficient?

It's a measure of how well a simple linear model accounts for observed variation.

### What is Product Line Pricing?

Product line pricing is a pricing strategy that uses one product with various class distinctions. An example would be a car model that has various model types that change with performance and quality. This pricing process is evaluated through consumer value perception, production costs of upgrades, and other cost and demand factors.

### What is the most prevelant model for estimating the cost of equity?

The capital asset pricing model (CAPM) is the dominant model for estimating the cost of equity.

### What has the author Edward M Rice written?

Edward M. Rice has written: 'Portfolio performance, residual analysis and capital asset pricing model tests' -- subject(s): Capital assets pricing model

### From what word is 'archetype' a derivative?

The noun 'archetype' is a Greek derivative. Its origins trace back to the ancient Greek language of the classical Greeks. The root words are archein, which means 'old'; and typos, which means 'model'. The combined meaning is 'original pattern or model'.

### What is an apm?

An APM is an abbreviation for an arbitrage pricing model or an advanced power management.

### How much is the 2008 Mercedes Benz C-class?

The pricing depends on the model.

### Why copula is important?

Copulas are important in statistics because they are used to model the dependency structure between random variables. They help characterize the joint distribution of variables and are essential in risk management, option pricing, and portfolio optimization. Copulas allow for more flexible modeling of dependencies compared to traditional correlation measures.