Module 5 - Credit Products and Risk | Certificate in Quantitative Finance

Credit risk plays an important role in current financial markets. We see the major products and examine the most important models. The modeling approaches include the structural and the reduced form, as well as copulas.

Credit risk and credit derivatives: Products and uses, credit derivatives, qualitative description of instruments, applications
CDS pricing, market approach: Implied default probability, recovery rate, building a spreadsheet on pricing approach, building a spreadsheet on default timing, illustration of a working CDS pricing model
Synthetic CDO pricing: The default probability distribution, default correlation, tranche sensitivity, pricing spread
Risk of default: The hazard rate, implied hazard rate, stochastic hazard rate, utility theory, credit rating and Markov processes, credit derivatives.
Transition matrices: Modelling change of rating, dynamics.
Copulas: Uses for basket instruments, examples.

Lecture 5.1

Definitions and uses of credit derivatives
Examples of credit derivatives, including term sheets

Lecture 5.2

Modeling default risk
Structural models
Reduced-form models
Credit ratings
How to model change of rating

Lecture 5.3

Copulas
Mathematical definitions
Uses for credit risk on baskets
Examples

Lecture 5.4

Implied default probability
Recovery rate
Building spreadsheets for pricing and default timing
Illustration of a working CDS pricing model

Lecture 5.5

Synthetic CDO pricing
The default probability distribution
Default correlation
Tranche sensitivity

Preparatory reading:

P. Wilmott, Paul Wilmott On Quantitative Finance, second edition, 2006, John Wiley. Chapters 39—42
M.Choudhry, Structural Credit Products: Credit Derivatives and Synthetic Securistisation, 2004, John Wiley.
Chapters 2-7, 10, 13

Follow-up recording(s), extra lecture(s):

Intensity Models: Theory, Calibration, Pricing

Module 5 - Credit Products and Risk