Update: December 12, 2008.  While none of our analysis or calculations was incorrect, we did have a minor error in the penultimate paragraph. We should of said “first” not “last.” To make amends, here is a multi-period problem, Multi-period Bond Price Implied Default Rates and CDS, but it won’t make sense without reading this one first. We also added […]

But You’ll Never Know the One
We also have a newer post, Price Implied Default Rates, that provides an example more like a risky bond, and this one: Multi-period Bond Price Implied Default Rates and CDS. And we’ll have more related posts soon.
We’ve noticed that our few posts on risk neutral probabilities and implied default probabilities have been among our most […]

Update: we have newer posts on the topic, too, including Risk Neutral Valuation: There Are at Least Two Expected Values, that describes the difference between real and risk neutral distributions.  We also have: Price Implied Default Rates that provides an example more like a risky bond, and a multi-period example: Multi-period Bond Price Implied Default […]

We read in Monday’s (September 15) Wall Street Journal that the Federal Reserve nudged Merrill Lynch towards a merger: Crisis on Wall Street as Lehman Totters, Merrill Seeks Buyer, AIG Hunts for Cash.
We think it is a mistake, and we’re not certain of the Fed’s goal when its propose such arrangements.  Presumably, such a nudge is […]

The Good: In today’s (September 3) The Wall Street Journal, Holman Jenkins has a nice Business World column entitled, The Inflation Hurricane.
The print version’s blurb perfectly summarizes the essay: “Does the federal government have to be responsible for everything?”  By now, through constant media reinforcement, we know that everything that goes wrong is Bush’s fault, but Mr. Jenkins seem to […]

An Illustration with Only One Simple Equation.
Update: we have several newer, related posts: Implied RISK NEUTRAL probability of default, redux, expands the analysis presented here by using a different utility function and considering a couple of different situations;Risk Neutral Valuation: There Are at Least Two Expected Values describes a common source of confusion: the various distributions involved; and Price Implied […]

Or when is a “hedge” not a hedge?  —when it is a nedge or a sledge or a wild*** guess, of course.
To paraphrase St. Francis de Sales, the road to hell is paved with good intentions because execution matters!  (Elsewhere he scolds perfectionism, too, and argues for a balance: do not be rash, do not over-analyze.  Realize that […]

Update: If this topic is of interest, please see our more recent posts. Many provide better numerical illustrations of risk neutral probabilities: Implied Risk Neutral Probabilities (of Default) from August;  implied RISK NEUTRAL probability of default, redux from October 9; Risk Neutral Valuation: There Are at Least Two Expected Values from November 13; and Price Implied Default Rates from December 2. We also have […]