Figure 2

For any given security, the price of the security will reflect the price profile multiplied by the probability of each scenario occurring. Since there are two parameters in the distribution, for a given expected default rate, there is a correlation that will produce a probability distribution so that when the price profile is multiplied by the probabilities, it will equal the market price.

Figure 3 shows the correlation levels associated with various default probabilities for the A, BBB and BBB- indices. These lines are shown on the left axis. The right axis shows the associated expected cumulative losses. The chart shows correlations for Peak CDRs from 12 to 18. The correlations are near 15% for the 12% peak CDR and fall to about 4% for the 18% peak CDR. The corresponding life time expected losses rise from around 4% to 5.3%.

page 3 of 5 >>>