What is the Jarrow–Turnbull model?
Developed by Robert Jarrow and Stuart Turnbull, the Jarrow-Turnbull model is a reduced-form model for pricing credit risk. Some argue that it was the first reduced-form credit model, meaning it differs vastly from the other type of credit risk modelling: structural.
Where have you heard about the Jarrow–Turnbull model?
Large financial companies employ both structural credit models and reduced-form credit models, including Kamakura Corporation, which has offered both default probabilities on public companies since 2002. The Jarrow-Turnball is a great tool for lenders for their tactics in risk management.
What you need to know about the Jarrow–Turnbull model.
The Jarrow-Turnball model makes use of the interest rate to calculate credit pricing and the probability of default. As it is a reduced-form model, it assumes that the modeller (like the market) does not have full knowledge about the company and its assets and liabilities, and thus the default time is inaccessible. For pricing and hedging, Jarrow states that reduced-form models are the preferred methodology, compared to structural models, which assume that modellers have complete knowledge of the condition of the company leading to a predictable default time.