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Advanced Fixed Income Analysis, 2nd Edition by Michele Lizzio, Moorad Choudhry

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Chapter 8

The Default Risk of Corporate Bonds

Abstract

This chapter reviews the notion of default risk illustrating the concepts of spread risk and several benchmark spreads used to measure the yield spread of corporate bonds compared to the government bonds. The second part of the chapter describes the two main categories of credit risk models, structural approach and reduced-form approach. The first one treats the main theoretical models that estimate the credit risk according to the movement of the underlying asset like Merton, Black and Cox, Longstaff and Schwartz and Leland. The second one includes models that estimate the spread risk giving relevance on the default probability, recovery rate and debt value like Fons, Jarrow-Lando-Turnbull, ...

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