Proposal Review - jy478

[JohnYu0510]

Summary: This project aims to improve the pricing of US High Yield Corporate 5-year Credit Default Swaps (CDS) by estimating two key parameters in the pricing model with statistical methods. It utilizes three kinds of data as inputs: trading data (history prices of CDS and bonds along with the bond rating), fundamental data (financial statements), and macroeconomic indicators. The objective is to evaluate the Probability of Default and the Recovery Rate.

Advantages: (i) Great impacts for the financial industry: I think this topic is a pain point for derivative traders in the credit market, as the accuracy of pricing results can be very sensitive to the estimated parameters. The improved model can no doubt provide additional values in real-world practice. (ii) Proper data sets: All the factors that may determine the default and recovery rate are considered. Examples of input features and the database to be used are well explained in the proposal. (iii) Focus on a specific market. The project chooses the US High Yield Corporate 5-year market for research, which simplified the problem.

The following part is not the weak points of this project, but just some potential problems I think you may face in your future work.

Potential problems: (i) Timestamps of different data types may not be aligned. For example, in some cases, you may deal with daily trading data, monthly macroeconomic data, and quarterly earnings reports. The announcement dates of financial statements and macroeconomic data should also be considered. (ii) Output features for training your model may be kind of confusing. For estimating the probability of default, are you planning to use the historical default rates of corporate bonds as outputs, or the implied default rates of CDS spreads? For estimating the recovery rates, which output do you want to use? Are you planning to use unsupervised learning for classification? (iii) As is mentioned in your proposal, you may estimate the parameter by company. How can you model the correlation of default in your pricing?

In all this project is very interesting and valuable. Hope you succeed!