A STRUCTURAL ANALYSIS OF THE DEFAULT SWAP MARKET—PART 1 (CALIBRATION)

Lisa R. Goldberg, Rajnish Kamat and Vijay Poduri

We analyze the default swap market with the two factor I 2 structural model, which is driven by firm value and firm leverage. This paper describes a cross-market model calibration process that results in close alignment of our model spreads with the market. This enables us to extract systematic effects reflected in the dynamics of average levels of model inputs and outputs, and discern relative value among credits by analyzing model errors. We analyze the relative value application of our model in a companion paper.