A Simple Model for Credit Migration and Spread Curves

Damir Filipovic

Abstract: We propose and examine a simple model for credit migration and spread curves of a single firm both under the real-world and risk-neutral measure. This model is a hybrid of a structural and a reduced-form model. Default is triggered either by successive downgradings of the firm or an unpredictable jump of the state process. The default time is accordingly decomposed into predictable and totally inaccessible part.

The affine structure of the model yields explicit expressions for default probabilities and spread curves as (exponential) affine functions of the state process.

An empirical comparison to a purely structural and reduced-form model is provided.