Merrill Lynch's credit derivatives research department has developed models designed to offer clients more transparency of assumptions underlying how exotic credit derivatives are priced. Atish Kakodkar, head of U.S. credit derivatives research in New York, explained that the models allow clients to input bespoke credit derivatives portfolios and credit derivative options and view the methodology used to price the trades.
Thus far, models offered to clients have either been simplified, thus not being a good indicator of price, or have not been transparent in the formula and assumptions underlying the model. The new models, which comprise Excel sheets sent to clients, are designed to give clients the flexibility to input their own credits and then see clear explanations of the mechanics and assumptions underlying the pricing of trades.
Merrill first offered its correlation models, comprising single tranche collateralized debt obligations and first to default baskets, in mid-July and launched its model for pricing options on credit-default swaps last week, said Kakodkar. The firm plans to update these models continuously as well as extend them to new trades where it sees client demand.
