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Credit Risk Frontiers: Subprime Crisis, Pricing and Hedging, CVA, MBS, Ratings, and Liquidity by Frédéric Patras, Damiano Brigo, Tomasz R. Bielecki

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Chapter 18

Unified Credit-Equity Modeling

Vadim Linetsky

McCormick School of Engineering and Applied Sciences, Northwestern University

Rafael Mendoza-Arriaga

McCombs School of Business, University of Texas at Austin

This chapter surveys a modeling framework for the unified valuation of corporate debt, credit, and equity derivatives.In this framework, the defaultable stock price is seen as the fundamental observable state variable. Corporate debt, credit, and equity derivatives on a given firm are seen as contingent claims on the defaultable stock. We model the defaultable stock price as a jump-to-default extended diffusion. In particular, we survey the jump-to-default extended constant elasticity of variance (JDCEV) model of Carr and Linetsky ...

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