On the relative pricing of long maturity S&P 500 index options and CDX tranches

On the relative pricing of long maturity S&P 500 index options and CDX tranches

by Pierre Collin Dufresne

Book 15734 of NBER working paper series -- working paper

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"We investigate a structural model of market and firm-level dynamics in order to jointly price long-dated S&P 500 options and tranche spreads on the five-year CDX index. We demonstrate the importance of calibrating the model to match the entire term structure of CDX index spreads because it contains pertinent information regarding the timing of expected defaults and the specification of idiosyncratic dynamics. Our model matches the time series of tranche spreads well, both before and during the financial crisis, thus offering a resolution to the puzzle reported by Coval, Jurek and Stafford (2009)"--National Bureau of Economic Research web site.

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