Upfront calculator should not be treated as a model, warns Fitch Solutions

Fitch Solutions has published a quantitative research report entitled 'Charting a Course Through the CDS Big Bang'. The report examines the methodology used by the JP Morgan/Idsa calculator for converting credit default swap quotes between upfront and running.

It points out that the method used assumes a flat hazard rate and notes that using hazard rates from across the term structure would produce different results. The report also notes that the calculator fails for highly distressed names with a high upfronts paid by the protection buyer, and proposes that a third recovery scenario of 0% be added to address this problem.

Fitch Solutions warns that the proposed method of conversion is a rule-of-thumb converting method and should not be treated as a modeling device.