Today’s 45-minute movie reviews credit derivatives (in regard to themovie schedule, we are currently located at Module III. 4 and III. 5).We review the basic products (credit default swap, total rate of returnswap, and credit spread options), synthetic structures (e.g.,credit-linked notes, collateralized debt obligations) and we walkthrough Hull’s example of the valuation of a credit default swap.
Thevaluation of the credit default swap is not so too difficult once yourealize that the present, expected value of: [payments made by thedefault swap buyer; i.e., the buyer of credit protection] should equalthe present, expected value of: [a payoff received by the buyer, in thecontingent credit event]. The valuation then becomes an exerce insolving for two different future streams and solving for the spreadthat makes them equal.
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New Movie: Loss Given Default
Posted by David Harper
on 11th August 2006
Today’s45-minute movie has been published for subscribers of our 2006 FRMservice. The movie is Credit Risk Intro - Part 2. We review threechapters from de Servigny’s book, Measuring and Managing Credit Risk
.This includes loss given default (LGD), an important concept that is acomponent of Basel II’s internal rating-based (IRB) approach togenerating the capital requirement (K):
Also,we review the highlights of the credit risk portfolio models; i.e.,CreditMetrics, CreditPortfolioView, Portfolio Risk Tracker, PortfolioManager, and CreditRisk+. One way to categorize these models is alongthe following dimensions:
Wealso look at the very important concept of economic loss, which is thedifference between value at risk (VaR) and expected loss:
Finally we recap strategic capital allocation, where de Servigny argues that a top-down approach should precede
(come before) a bottom-up approach.