Rethinking Valuation and Pricing Models

15

Computing Reliable Default Probabilities in Turbulent Times

Dean Fantazzini^∗ and Mario Maggi^∗∗

^∗Moscow State University

^∗∗University of Pavia

Chapter Outline

15.1 Introduction

15.2 Brief Review of the KMV-Merton Model

15.2.1 Classic Merton model

15.2.2 Merton-type models: The iterative procedure by KMV

15.2.3 An extension: The Merton-GARCH model

15.3 Brief Review of the ZPP Model

15.4 Empirical Analysis

15.5 Conclusion

References

15.1 Introduction

The financial crisis that started in 2007 has clearly highlighted the importance of having robust and reliable methods to compute default probabilities. When Lehman Brothers filed for bankruptcy on 15 September 2008, marking the largest bankruptcy in US history, numerous analysts were almost caught ...