Credit Migration Derivatives: Implementation,Calibration, and Pricing

We consider the modelling of credit migration risk and the pricing of migration derivativesour approach enlarges the traditional setup where credit risk is based on default solely.We implement the Regime Shifting Markov Mixture model developed in Andersson (2007)and Andersson and Vanini (2008) this leads to a Point-In-Time migration matrix as theunderlying value. To obtain prices of the Credit Migration Derivatives we calibrate ourmodel and provide a comprehensive discussion on the calibration methodology. We provideequations for the Kalman Filter-Maximum Likelihood algorithm as well as equationsfor the more advance Extended Kalman Filter-Quasi Maximum Likelihood algorithm.[...]