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date: 16 May 2021

Abstract and Keywords

This article addresses the challenges posed by marginal default distribution models – for illustrative purposes it uses a straightforward Gaussian copula – and details counterparty risk corrections for credit default swaps (CDSs), index CDSs, and collateralised debt obligations. The static copula approach fixes the expected value of the product conditional on counterparty default, but not its distribution. As a consequence, only bounds for the value of the correction are provided, but in many cases these are tight enough to be useful. The article presents a number of numerical examples including a timely reminder that ‘risk-free’ super-senior tranches are particularly prone to counterparty risk.

Keywords: marginal default distribution, credit default swaps, collateralised debt obligations, counterplay default

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