Title: Long-term and short-term impacts of common factors on correlated defaults
Authors: Charles Chang - Fudan University (China)
Cheng-Der Fuh - National Central University (Taiwan)
Chu-Lan Kao - National Chiao-Tung University (Taiwan) [presenting]
Abstract: Empirical studies have shown that the default of a firm impacts other firms in various ways. While some defaults only trigger short-term shock across the market, others tend to have a long-term effect on the correlated default structure. We utilize these two different features under the commonly used one-factor structural form model. In particular, through renewal theory, we show that a common factor without latent variable would only create short-term co-movement effect, but one with a latent variable will create a long-term impact. The different structure of the common factor is shown to make an essential difference on the correlate default dynamic.