Summary: Combinatorics is an honest subject. No adles, no sigma-algebras.
You count balls in a box, and you either have the right number or
you havent. Gian Carlo Rota.
DYNAMIC CONDITIONING AND CREDIT CORRELATION
CLAUDIO ALBANESE AND ALICIA VIDLER
Abstract. Dynamic conditioning is a technique that allows one to formu-
late correlation models for large baskets without incurring in the curse of
dimensionality. The individual price processes for each reference name can
be described by a lattice model specified semi-parametrically or even non-
parametrically and which can realistically have about 1000 sites. The time
discretization step is chosen so small to satisfy the Courant stability condi-
tion and is typically of about a few hours. This constraint ensures needed
smoothness for the single name probability kernels which can thus be directly
manipulated. A flexible multi-factor correlation model can be obtained by
means of conditioning trees corresponding to binomial processes with jumps.
There is one conditioning tree associated to each reference names, one associ-
ated to each industry sector and a global one to the basket itself. Since the
conditioning trees are correlated, the underlying processes are also mutually