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1、22BasketDefaultSwaps*Keywords:creditderivatives,defaultablebonds,simulation22.1ProblemStatementCreditderivativesarefinancialcontractsallowingthetransferofcreditriskfromonemarketparticipanttoanother.Thisfeatureimprovestheefficientallocationofcreditriskamongst
2、marketparticipants.Forthisreason,inrecentyearscreditderivativeshavebecomethemaintoolfortransferringandhedgingrisk.Creditderivativemarketshaverapidlygrowninvolumeandvarietyoftradedproducts.Credit-linkedsecuritieshaveexperiencedvariousapplications,rangingfro
3、mhedgingdefaultrisk,tofreeingupcreditlines,toreducingregulatorcapitalrequirements,tohedgingdynamiccreditexposuredrivenbymarketvariablesandtodiversifyingfinancialportfoliosbygainingaccesstootherwiseunavailablecredits.Theoutstandingbalanceofcreditderivativesc
4、ontractshasincreasedfromanesti-matedUSD50billionin1996toalmostUSD500billionattheendoftheyear2000.Accordingtothe2003ISDAsurveythevolumeofthecreditderivativesmarkethasreachedanoutstandingnotionalofmorethanUSD2trillioninFebruary2003.Theexactsizeoftheglobalcre
5、ditderivativesmarkets,however,isdifficulttoestimate,giventhepotentialforovercountingwhencontractsinvolvemorethanonecoun-terpart.Moreover,thenotionalamountsoutstandingconsiderablyoverstatethenetexposureassociatedwiththosecontracts.Creditdefaultswaps(CDS)cons
6、titutethefundamentalclassofcreditderivatives(Schonbucher(2003)).Theseinstrumentsallowbankstohedgecreditriskunderly-ingloansandotherinterestratepositions.Amorecomplicatedcredit-linkedproductisthebasketdefaultswap(BDS),whosepay-offiscontingentonthedefaultocc
7、ur-ringwithinabasketofbonds.Moreprecisely,abasketdefaultswapisabilateralcontractwherebyonecounterpart,namedthe“protectionseller”,agreestomake∗withGiacomoLePeraandDavideMeneguzzo.48822BasketDefaultSwapsaspecificcompensationpaymenttotheothercounterpart,namedt
8、he“protectionbuyer”,wheneveraspecificcrediteventoccurs.Thiseventisdefinedwithrespecttoabasketofobligors.A1st-to-defaultbasketprovidesforapaymentupondefaultofanyoftheobligorswithinthebasket.Settlementmayinvolvec
