EM LYON School of Management

FINAL THESIS Contingent Credit Default Swaps: How to Manage Contingent Credit Risk

Sika Jean Angbonou

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EM LYON School of Management

Table of Contents

I. II. A. B. III. A. B.

INTRODUCTION ............................................................................................................................................. 2 PRELIMINARIES ............................................................................................................................................. 3 BASICS AND OVERVIEW ..........................................................................................................................................3 C-CDS SETTLEMENT MECHANICS .............................................................................................................................5 VALUATION OF CREDIT DEFAULT SWAP ........................................................................................................ 7 GENERAL VALUATION .............................................................................................................................................7 APPROXIMATION FROM DEFAULT PROBABILITIES .........................................................................................................8 1. Valuation of the Fee Leg...............................................................................................................................9 2. Valuation of the Contingent Leg ..................................................................................................................9 3. From Hazard Rate to Default Probabilities ................................................................................................10 VALUATION OF COUNTERPARTY RISK ..................................................................................................... 11 THE PROBABILISTIC FRAMEWORK