Explicit Pricing Formulas for European Option with Asset Exposed to Double Defaults Risk

We derive analytical formulas for European call and put options on underlying assets that are exposed to double defaults risks which include exogenous counterparty default risk and endogenous default risk. The endogenous default risk leads the asset price to drop to zero and the exogenous counterpar...

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Bibliographic Details
Published in:Discrete dynamics in nature and society 2018-01, Vol.2018 (2018), p.1-8
Main Author: He, Taoshun
Format: Article
Language:English
Subjects:
Decomposition
Economic models
Investments
Mathematical models
Pricing
Put & call options
Random variables
Risk
Stochastic models
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Summary:We derive analytical formulas for European call and put options on underlying assets that are exposed to double defaults risks which include exogenous counterparty default risk and endogenous default risk. The endogenous default risk leads the asset price to drop to zero and the exogenous counterparty default risk induces a drop in the asset price, but the asset can still be traded after this default time. A novel technique is developed to evaluate the European call and put options by first conditioning on the predefault and the postdefault time and then obtaining the unconditional analytic formulas for their price. We also compare the pricing results of our model with default-free option model and counterparty default risk option model.
ISSN:1026-0226
1607-887X
DOI:10.1155/2018/8362912