A structural model with unobserved default boundary

Publication Type:
Journal Article
Citation:
Applied Mathematical Finance, 2008, 15 (2), pp. 183 - 203
Issue Date:
2008-04-01
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A firm-value model similar to the one proposed by Black and Cox (1976) is considered. Instead of assuming a constant and known default boundary, the default boundary is an unobserved stochastic process. This process has a Brownian component, reflecting the influence of uncertain effects on the precise timing of the default, and a jump component, which relates to abrupt changes in the policy of the company, exogenous events or changes in the debt structure. Interestingly, this setup admits a default intensity, so the reduced form methodology can be applied.
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