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CDO TERM STRUCTURE MODELLING WITH LÉVY PROCESSES AND THE RELATION TO MARKET MODELS

THORSTEN SCHMIDT

Department of Mathematics, Chemnitz University of Technology, Reichenhainer Str. 41, 09126 Chemnitz, Germany

Corresponding author.

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and

JERZY ZABCZYK

Institute of Mathematics of the Polish Academy of Sciences, Sniadeckich 8, P. O. B. 21, 00-956, Warszawa 10, Poland

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https://doi.org/10.1142/S0219024911006462Cited by:3 (Source: Crossref)

Abstract

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 conditions for absence of arbitrage in this generalized framework. Furthermore, we study the relation to market models by embedding them in the forward rate framework in spirit of Brace, Gatarek and Musiela (1997).

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