Recovering survival probabilities from equity option prices and credit default swap spreads

Abstract

After the financial crisis onset in 2007, the interest in credit risk assessment has grown exponentially and there is an even more pressing need for efficient credit risk models. To this aim we introduce a credit risk structural model that is consistent with both the equity option and the credit default swap markets. It provides survival probabilities that can be used for market consistent pricing of over-the-counter structured products. Empirical evidence of the model accuracy and efficiency is given by using Goldman Sachs, J.P. Morgan Chase and Morgan Stanley market data prior to, during and after the Lehman Brothers default.