Credit Risk in Financial Derivatives
Department of Statistics
North Carolina State University
September 12, 1997
Abstract
An over-the-counter financial derivative transaction is a
two-party contract which may have a lifetime of several years. Such an
agreement has the potential to expose each party to the risk of default
by the other. Measuring and managing this risk may be critical to the
survival of the parties. One important tool in managing risk is the
pledging of collateral from one party to the other. Another is the
credit-enhanced derivatives intermediary, which also typically depends
on the use of collateral. Developing rules for adequate levels of
collateral and strategies to minimize its cost is therefore a critical
need; statistical analysis and reasoning play a role in meeting that
need.