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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 7

Filtering and Incomplete Information in Credit Risk

Rüdiger Frey

Department of Mathematics, Universität Leipzig

Thorsten Schmidt

TU Chemnitz

This chapter studies structural and reduced-form credit risk models under incomplete information using techniques from stochastic filtering. We start with a brief introduction to stochastic filtering. Next we cover the pricing of corporate securities (debt and equity) in structural models under partial information. Furthermore, we study the construction of a dynamic reduced-form credit risk model via the innovations approach to nonlinear filtering, and we discuss pricing, calibration, and hedging in that context. The chapter closes with a number of numerical case studies related to model calibration ...

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