Credit-Hybrid risk Forum

The third in our series of Industrial-Academic forums took place at the end of last week at Fields. I didn't attend many of the talks, because of a combination of train delays, family appointments and being busy looking after Robert Merton, so this post is not as detailed as I would normally have liked.

A quick glance at the program reveals that counterparty risk in general, and CVA in particular, was the prominent theme of the forum, followed closely by game options. This made for a very diverse forum, since the former is mostly grounded in practical day-to-day considerations for both banks and regulators (case in point: how to deal with so called "wrong-way risk", which doesn't strike me as a groundbreaking theoretical question, but somehow gets everybody else excited), whereas the latter is as theoretical as it gets (case in point: as Jan Kallsen showed, game options incorporate both European and American options as special cases, and pricing and hedging them quickly leads one to think deep about the limitations of arbitrage and replication, utility-based approaches, and so on).

A third pillar for the forum was the joint modeling of equity and credit markets, which sits between the other two in the theory-practice spectrum. For example, I missed Claudio Albanese's talk but understood from the comments and discussion that he is agnostic about models, but extremely concerned about the computational paradigms
(third and forth level BLAS, whatever that means) that are necessary to calibrate them to all available credit and equity derivatives. On the other hand, Tom Hurd, Julien Turc and Rafael Mendoza-Arriaga all have subtly different ways to jointly model credit and equity, ultimately relying on a deeper understanding of the capital structure of a company.