Default-risky bond prices with jumps,liquidity risk and incomplete information |
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Authors: | Monique Jeanblanc Stoyan Valchev |
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Institution: | (1) Université d’Evry, Rue du Père Jarlan, 91025 EVRY Cedex, France;(2) Risk Analytics and Instruments (RAI), Risk and Capital Management, Deutsche Bank, Floor 1, 46 New Broad Street, London, EC2 1JD, UK |
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Abstract: | This paper provides a default-risky bond valuation model, which assumes that the issuer’s credit quality, modelled by the
intensity of default, is driven by a continuous-time Markov chain. The model accounts for default and liquidity risk as well
as incomplete information. A full-information semimartingale representation of a liquid defaultable bond price, which separates
three different types of risks—default, interest-rate and credit-quality, is obtained. The illiquidity is modelled as exogenously
specified stochastic reduction in the price of the bond, which adds more risks for the investors. A model of a market with
partially informed investors, belonging to specific investor classes and having access to discrete information sets about
credit quality, was specified. Valuations of defaultable bonds in this market were provided as well as price impacts of the
new information releases.
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Keywords: | Credit risk Liquidity Information |
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