What is a Constant Maturity Default Swap?

acl · May 9th, 2004, 7:03 pm

What precisely is a Constant Maturity Default Swap? This question was posted before, but I didn't notice any replies. Is it a CDS where the fixed payments are replaced with payments that dependent on a a particular swap rate? If so, what sort of model is most appropriate? A Cox process, where the hazzard rate and the yield curveare stochstic, or can one get by with deterministic interest rates?These products appear to have become popular, but I cannot find any material on them. Help!

JabairuStork · May 10th, 2004, 1:20 pm

The simplest form is just a floating rate CDS where the spread resets periodically to the market rate. All you need is the forward spread curve to value these, although I guess you could go and model interest rates as well if you really wanted to.I think the basic motivation is to isolate default risk from price volatility.