1. Department of Mathematics & Statistics, Boston University, Boston, MA 02215, United States;2. Department of Management Science and Engineering, Stanford University, Stanford, CA 94305, United States
Abstract:
We analyze the fluctuation of the loss from default around its large portfolio limit in a class of reduced-form models of correlated firm-by-firm default timing. We prove a weak convergence result for the fluctuation process and use it for developing a conditionally Gaussian approximation to the loss distribution. Numerical results illustrate the accuracy and computational efficiency of the approximation.