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PDE approach to valuation and hedging of credit derivatives

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This paper presents a PDE approach in a Markovian setting to hedge defaultable derivatives. The arbitrage price and the hedging strategy for an attainable contingent claim are described in terms of solutions of a pair of coupled PDEs. For some standard examples of defaultable claims, we provide explicit formulae for prices and hedging strategies.

Keywords: Credit derivatives; Hedging; PDE approach; Valuation

Document Type: Research Article

DOI: http://dx.doi.org/10.1080/14697680500149297

Affiliations: 1: Department of Applied Mathematics, Illinois Institute of Technology, Chicago, IL 60616, USA 2: Département de Mathématiques, Université d'Évry Val d'Essonne, 91025 Évry Cedex, France 3: Faculty of Mathematics and Information Science, Warsaw University of Technology, 00-661 Warszawa, Poland

Publication date: June 1, 2005

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