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Implied and Based Correlation
Hi,I read some pagers and have the impression that Implied Correlation and Base Correlation are the correlation between tranches. Can anyone tell me what is the exact definition of these two correlations. What are random variables to define these correlations? Tranches are not random. Are these correlations the correlations between tranche spreads/premium, or tranche default??Many thanksMing
Implied and Based Correlation
they have something to do with the correlation of the underlying colleterals.
Implied and Based Correlation
when you speak about correlation in this context it means the correlation between the components of the portfolio (the obligors, the names in the ptf)if fact u look at the prices of tranche spreads in the market and try to imply the correlation used to give this price (like for equity)the implied correlation corrsponds to the graph of the correlation used in function of the trancheand the base correlation corresponds to the graph of the imp correlation to price equity tranches but with changing upper limit
Implied and Based Correlation
wstguru,Thank you very much. I need the formal definition. Implied correlation can be graphed. The graphic presents the relationship between tranches(attachment points and detachment points) and correlation. The graph presents a 'smile'. The curve is not monotonic. My question is if an implied correlation depends on the components of the portfolio. It should NOT change with tranches. Do you have any formula to compute the implied correlation?ThanksMing
Implied and Based Correlation
exact, it should not change with the tranche because it depends only on the structure of the pft, it should be constant for all tranches, but, adjusting the correlation for each tranche allows to take into account the inefficiencies of the model (especially the copula model) which under-estimate the probability of large or small losses.
Implied and Based Correlation
wstguruThanksI attached a file with graph of implied correation vs. tranches. Could you help interpret this graph?Many thanksMing