Default Swap Games Driven by Spectrally Negative Levy Processes

Details Default Swap Games Driven by Spectrally Negative Levy Processes Default Swap Games Driven by Spectrally Negative Levy Processes

2011-05-02

arxiv.org/abs/1105.0238v3

Economy

Quantitative Finance

Pricing of Securities

33pages, 4 figures

Scientific paper

This paper studies game-type credit default swaps that allow the protection buyer and seller to raise or reduce their respective positions once prior to default. This leads to the study of an optimal stopping game subject to early default termination. Under a structural credit risk model based on spectrally negative Levy processes, we apply the principles of smooth and continuous fit to identify the equilibrium exercise strategies for the buyer and the seller. We then rigorously prove the existence of the Nash equilibrium and compute the contract value at equilibrium. Numerical examples are provided to illustrate the impacts of default risk and other contractual features on the players' exercise timing at equilibrium.

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