Pricing and Risk Management of Synthetic CDOs

Abstract

This article analyzes the risks of synthetic CDO structures and their sensitivity to model parameters. To measure these sensitivities, the author introduces the latest techniques in pricing and risk management of synthetic CDOs. He shows how to model the conditional and unconditional default distributions of a typical synthetic deal using a simple mathematical framework. Strictly speaking, the findings of this article are directly applicable only to synthetic structures. However many of the modeling and risk-management insights discussed apply to structures involving a waterfall.