Evaluation of credit value adjustment in K-forward

Abstract

We study the counterparty default risk for longevity-linked securities in this thesis. In particular, we model and quantify credit value adjustment (CVA) in K-forward, a newly proposed longevity-linked security, from the longevity risk hedger’s perspective. The modeling is two folds. First, a vector autoregressive integrated moving-average process is used to model the time series of mortality indexes that is obtained by applying the original Cairns–Blake–Dowd model. Then, the risk-neutral term structure of default probability of the hedge provider is obtained by calibrating a reduced-form default model by matching the market price of bonds issued by the hedge provider with their dirty prices. We calculate and compare CVAs in K-forwards under different combinations of hedger provider, reference year and recovery rate.