Active Credit Portfolio Management

A Practical Guide to Credit Risk Management Strategies

By: Jochen Felsenheimer, Philip Gisdakis, Michael Zaiser

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Product code: 23107
ISBN: 3527501983
582 pages
Format: Hb
Published by: John Wiley & Sons, 2005, 1st edition

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Active Credit Portfolio Management - front page cover image

Description of Active Credit Portfolio Management

The introduction of the euro in 1999 marked the starting point of the development of a very liquid and heterogeneous EUR credit market, which exceeds EUR 350 bn in respect to outstanding corporate bonds. Against this background, credit risk trading and credit portfolio management gained significantly in importance. The book shows how to optimize, manage and hedge liquid credit portfolios, i.e. applying innovative derivative instruments.

Against the background of the highly complex structure of credit derivatives, the book points out how to implement portfolio optimization concepts using credit-relevant parameters, basic Markowitz or more sophisticated modified approaches (e.g. Conditional Value at Risk, Omega optimization) to fulfill the special needs of an active credit portfolio management on a single-name and on a portfolio basis (taking default correlation within a credit risk model framework into account). This includes appropriate strategies to analyze the impact from credit relevant newsflow (macro- and micro-fundamental news, rating actions, etc.). As credits resemble equity-linked instruments, we also highlight how to implement debt-equity strategies, which are based on a modified Merton approach.

The book is obligatory for credit portfolio managers of funds and insurance companies, as well as bank-book managers, credit traders in investment banks, cross-asset players in hedge funds and last but not least risk controllers.

Active Credit Portfolio Management - Chapter headings

Foreword
Introduction and Acknowledgements

PART I Markets

1. Market Structure
1.1 Market Development
1.2 Market Participants
1.3 Issuing Debt from a Company's Viewpoint
1.4 Ratings and Rating Agencies
1.5 Credit Classes

2. Instruments
2.1 Straight Bonds
2.2 Bonds with Embedded Options
2.3 Exotics
2.4 Hybrid Bank Capital
2.5 Single-Name Credit Derivatives
2.6 Portfolio Credit Derivatives
2.7 Outlook on Product Development

3. Company and Debt Instrument Analysis
3.1 Sovereign Risk and Government Support
3.2 Business Risk
3.3 Financial Risk
3.4 The Rating Agencies' Methodology
3.5 Evaluation of Specific Debt Instruments
3.6 Recovery Rate Estimates

4. The Economics of Credit Spreads
4.1 Macro Drivers
4.2 Micro Drivers
4.3 Credit Quality
4.4 Equity-Debt Linkage
4.5 Market Technicals

PART II Models

5. Fixed Income Basics
5.1 Basic Valuation Concepts
5.2 Obtaining the Term Structure of Interest Rates
5.3 The Yield to Maturity
5.4 Measurement of Interest Rate Risk

6. Spread Measures
6.1 Basic Considerations
6.2 Yield Spreads
6.3 Z-Spreads
6.4 Asset Swap Spreads
6.5 Spread Measures for Floaters
6.6 Spreads and the Real Economy
6.7 Conclusion

7. Basics of Credit Risk Models
7.1 The Components of Credit Risk
7.2 A Single-Step, Two-Stage Model
7.3 A Multi-Step Model for Zero Coupon Bonds
7.4 The Multi-Step Model
7.5 Continuous-Time Approach
7.6 Recovery Treatment
7.7 The Term Structure of Credit Spreads

8. Single-Name Models
8.1 Reduced-Form Models
8.2 Structural Models
8.3 Rating-Based Transition Matrix Models

9. Portfolio Models
9.1 The Loss Distribution and its Impact on Portfolio Derivatives
9.2 Independent Defaults
9.3 Default Dependency
9.4 Term-Structure Effects
9.5 Valuing First-to-Default Baskets
9.6 Valuing CDO Tranches with the HLPGC Model
9.7 Spread Dispersion
9.8 Price Discovery versus Model Competition

10. Valuation of Credit Derivatives
10.1 Credit Default Swaps
10.2 Options on Credit-Risky Instruments
10.3 CDS Indices
10.4 nth-to-Default Baskets
10.5 Collateralized Debt Obligations
10.6 Exotic Derivatives

11. Portfolio Risk Measurement
11.1 Risk Measures
11.2 Credit Portfolio Models

PART III Management

12. Principles of Credit Portfolio Management
12.1 The Role of ACPM in the Asset Allocation Process
12.2 Management Styles: Passive or Active
12.3 Quantitative and Fundamental Credit Research
12.4 Diversification in Credit Portfolios
12.5 Credit Risk Management in an ALM Environment
12.6 Credits in the Global Asset Allocation
12.7 Building Blocks of Credit Portfolio Management
12.8 Key Portfolio Figures

13. Portfolio Allocation
13.1 Indices
13.2 Sector Allocation in a Markowitz Framework
13.3 Quality Allocation
13.4 Tools to Derive the Optimal Allocation

14. Performance Measures
14.1 Tracking Error
14.2 Sharpe Ratio and Treynor Ratio
14.3 Information Ratio
14.4 Summary

15. Performance Analysis
15.1 Return Accumulation
15.2 Return Attribution Analysis

16. Hedging Credit Risk
16.1 Hedging on a Single-Name Level
16.2 Hedging on a Portfolio Level

17. Trading Strategies
17.1 Trading Cash Bonds
17.2 Trading Strategies with Single-Name CDS
17.3 Portfolio Derivatives Trades
17.4 Spread Options: Single and Complex Strategies
17.5 CPPI Strategies Including iTraxx Indices
17.6 Correlation Trading
17.7 Capital Structure Arbitrage Trades
17.8 Recovery Trades
17.9 EDS versus CDS and the Role of DDS
17.10 CDS–Cash–Repo Arbitrage

18. Operational Issues: Accounting
18.1 An Introduction to IAS 39
18.2 IAS 39 Accounting for Credit Instruments

19. Operational Issues: Basel II
19.1 An Introduction to Basel II
19.2 Basel II for Credit Instruments

PART IV Appendix

A.1 Analytics with Bloomberg and Reuters
A.2 Default and Recovery Data from Rating Agencies

References
Index

Authobiography of Jochen Felsenheimer, Philip Gisdakis, Michael Zaiser

Dr. Jochen Felsenheimer works for HVB Corporates & Markets and is currently heading the Credit & Credit Derivatives Strategy team, a department of HVB Global Markets Research. He holds a PhD in Economics from Ludwigs-Maximilians-Universität München.

Dr. Philip Gisdakis is a Quantitative Credit Strategist. He studied Mathematical Finance at the University of Oxford and holds a PhD degree in Theoretical Chemistry from Technische Universität München.

Michael Zaiser is a Credit Strategist at HVB Corporates & Markets. He studied Business Administration and Mathematics at Johann Wolfgang Goethe-Universität Frankfurt am Main.