An application to credit risk of a hybrid Monte Carlo-Optimal quantization method

TL;DR

This paper introduces a hybrid Monte Carlo-Optimal quantization approach to estimate a firm's conditional survival probabilities under partial information, aiding credit risk assessment and credit spread analysis.

Contribution

It presents a novel hybrid method combining Monte Carlo and optimal quantization for credit risk modeling with partial information.

Findings

Effective approximation of conditional survival probabilities.

Insight into credit spread curve shapes.

Application to zero coupon bonds.

Abstract

In this paper we use a hybrid Monte Carlo-Optimal quantization method to approximate the conditional survival probabilities of a firm, given a structural model for its credit defaul, under partial information. We consider the case when the firm's value is a non-observable stochastic process $(V_t)_{t \geq 0}$ and inverstors in the market have access to a process $(S_t)_{t \geq 0}$, whose value at each time t is related to $(V_s, s \leq t)$. We are interested in the computation of the conditional survival probabilities of the firm given the "investor information". As a application, we analyse the shape of the credit spread curve for zero coupon bonds in two examples.