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Understanding risk: the theory and practice of financial risk management

Author: Murphy, David Series: Chapman and Hall CRC financial mathematics series Publisher: Chapman and Hall, 2008. ; CRC, 2008.Language: EnglishDescription: 452 p. : Graphs/Photos ; 26 cm.ISBN: 9781584888932Type of document: BookBibliography/Index: Includes bibliographical references and index
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Item type Current location Collection Call number Status Date due Barcode Item holds
Book Europe Campus
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Print HG6024.3 .M87 2008
(Browse shelf)
001240405
Available 001240405
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Includes bibliographical references and index

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Understanding Risk The Theory and Practice of Financial Risk Management Contents INTRODUCTION xv PART ONE Risk Management and the Behaviour of Products CHAPTER 1 n Markets, Risks and Risk Management in Context 1.1 FINANCIAL MARKETS OVERVIEW 1.1.1 Introducing the Markets 1.1.2 Securities 1.1.3 Other Instruments 1.1.4 Equity Markets 1.1.5 Interest Rate Instruments 1.1.6 Foreign Exchange Markets 1.1.7 Derivatives Markets 1.1.8 Principal Investment and Private Equity 1.1.9 (A Short Section on) Commodities Markets 1.2 TRADING AND MARKET BEHAVIOUR 1.2.1 The Difficulty of Forecasting Market Levels 1.2.2 The Anatomy of a Market Crisis 1.2.3 Current and Past Markets 1.3 BASIC IDEAS IN RISK MANAGEMENT 1.3.1 Types of Risk 1.3.2 The Aims of Risk Management 1.3.3 Sensitivities 1.3.4 Daily Risk Controls: P/L, Limits and P/L Explanation 1.3.5 What Do You Own? The Deal Review Process 1.3.6 Trader Mandates 29 29 32 39 39 46 47 47 50 51 3 3 3 5 7 9 12 21 22 25 27 28 1.4 CULTURE AND ORGANISATION 1.4.1 Risk Management in the Broader Institution 1.4.2 Cultural Issues 1.4.3 A Taxonomy of Financial Institutions 1.4.4 Some Large Losses in the Wholesale Markets 1.5 SOME EXTERNAL CONSTRAINTS 1.5.1 Regulation 1.5.2 Accounting 1.5.3 Marking to Fair Value 1.5.4 Special Purpose Vehicles and Consolidation 52 52 54 56 61 63 64 68 74 76 CHAPTER 2 n Derivatives and Quantitative Market Risk Management 2.1 RETURNS, OPTIONS AND SENSITIVITIES 2.1.1 Asset Returns and Risk Factors 2.1.2 Risk Factor Selection 2.1.3 Risk Reporting with a Single Risk Factor 2.1.4 Forwards and Arbitrage 2.1.5 Models of Market Returns 2.1.6 Risk Reporting in a Return Model 2.1.7 Introducing Options 2.1.8 The Greeks 2.1.9 Options Risk Reporting 2.1.10 P/L Explanation for Options 2.2 PORTFOLIOS AND RISK AGGREGATION 2.2.1 The Varieties of Trading Portfolio and Their Management 2.2.2 Diversification and Correlation 2.2.3 Reporting and Risk in a Return Model: Multiple Factors 2.2.4 Scenario Analysis 2.2.5 Stress Testing 2.3 UNDERSTANDING THE BEHAVIOUR OF DERIVATIVES 2.3.1 Overview of the Theory of Options Pricing: Black-Scholes and the Replicating Portfolio 2.3.2 Implied Volatility and Hedging 2.3.3 Retail Equity-Linked Products: Some Simple Structures and Their Problems 79 79 79 80 81 84 88 91 93 95 97 99 99 100 102 105 107 108 112 112 116 121 2.3.4 A Little More about Exotic Options 2.3.5 Local and Stochastic Volatility 2.4 INTEREST RATE DERIVATIVES AND YIELD CURVE MODELS 2.4.1 Futures and Forwards on Interest Rates 2.4.2 Interest Rate and Asset Swaps 2.4.3 Credit Risk in Swap Structures 2.4.4 Other Interest Rate Swap Structures 2.4.5 Cross-Currency Swaps 2.4.6 Basis Swaps 2.4.7 Caps, Floors and Yield Curve Models 2.4.8 Swaptions 2.4.9 Exotic Interest Rate Derivatives 2.5 SINGLE-NAME CREDIT DERIVATIVES 2.5.1 Products 2.5.2 Credit Events and Documentation 2.5.3 Credit Derivatives Valuation 2.5.4 Risk Reporting for Credit Derivatives 2.6 VALUATION, HEDGING AND MODEL RISK 2.6.1 Mark-to-Market and Mark-to-Model 2.6.2 Marking and Model Risk 2.6.3 Hedging, P/L and Mark Adjustments 123 126 129 130 131 135 136 137 137 139 142 143 146 146 147 151 152 153 153 154 157 PART TWO Economic and Regulatory Capital Models CHAPTER 3 n Capital: Motivation and Provision 3.1 MOTIVATIONS FOR CAPITAL 3.1.1 What Is Capital for? 3.1.2 Earnings Volatility and Capital 3.1.3 The Optimisation Problem 3.1.4 Capital, More or Less 3.2 CAPITAL INSTRUMENT FEATURES 3.2.1 Seniority and Subordination 3.2.2 Deferral and Dividends 3.2.3 Maturity and Replacement 3.2.4 Convertibility and Write-Down 3.2.5 Example Capital Securities 163 163 163 164 165 167 167 168 169 169 169 170 3.3 REGULATORY CAPITAL PROVISION 3.3.1 The Tiers of Basel Capital 3.3.2 Insurance Capital 3.3.3 Consolidated Capital 3.3.4 Capital Management: Issues and Strategies 171 171 173 173 174 CHAPTER 4 n Market Risk Capital Models 4.1 GENERAL MARKET RISK CAPITAL MODELS 4.1.1 Value at Risk Techniques I: Variance/Covariance 4.1.2 Value at Risk Techniques II: Revaluation and Historical Simulation 4.1.3 Value at Risk Techniques III: Monte Carlo Approaches 4.1.4 Relative VAR 4.1.5 Backtesting, VAR Exceptions and the VAR Hypothesis 4.2 SOME LIMITATIONS OF VALUE AT RISK MODELS 4.2.1 Specific Risk 4.2.2 Volatility and Correlation Instabilities 4.2.3 The Holding Period Assumption 4.2.4 What Is the VAR Good for? 4.3 RISK SYSTEMS AND RISK DATA 4.3.1 Effective Risk Reporting 4.3.2 Market Data 177 177 177 182 184 186 186 188 188 189 190 192 193 193 196 CHAPTER 5 n Credit Risk and Credit Risk Capital Models 5.1 THE BANKING BOOK: INTRODUCING THE PRODUCTS AND THE RISKS 5.1.1 Retail Banking 5.1.2 Commercial Banking 5.1.3 Forces for Change 5.2 CREDIT RISK FOR SMALL NUMBERS OF OBLIGATORS 5.2.1 Single Transaction Exposure 5.2.2 Potential Future Credit Exposure 5.2.3 What Is a Credit Spread Compensation for? 5.2.4 Partial Credit Mitigation 5.2.5 Introducing Basket Credit Derivatives 201 201 201 203 205 205 206 209 211 212 213 5.3 AN INTRODUCTION TO TRANCHING AND PORTFOLIO CREDIT DERIVATIVES 5.3.1 Funding and Loss Absorption 5.3.2 Securitisation and Tranching 5.3.3 Collateralised Debt Obligations 5.3.4 Structuring and the Waterfall 5.3.5 Index Credit Products 5.3.6 (The Problem with) Credit Event Correlation 5.3.7 Practical Credit-Adjusted Pricing 5.4 CREDIT PORTFOLIO RISK MANAGEMENT 5.4.1 The Portfolio Credit Risk Loss Distribution 5.4.2 Some Models of Portfolio Credit Risk 5.4.3 Stress Testing Credit Portfolios 5.4.4 Active Credit Portfolio Management 5.4.5 Credit Scoring and Internal Rating 5.5 POLITICAL AND COUNTRY RISK 5.5.1 Examples of Country Risk 5.5.2 The Effect of Country Risk 5.5.3 Measuring Country Risk 5.5.4 Country Risk Management 216 216 217 220 222 223 224 226 227 227 229 233 234 237 240 241 242 243 245 CHAPTER 6 n Operational Risk and Further Topics in Capital Estimation 6.1 AN INTRODUCTION TO OPERATIONAL RISK 6.1.1 Operational Risk Classes and Losses 6.1.2 Scorecard Approaches to Operational Risk 6.1.3 Some Issues in Operational Risk Management 6.2 THE TAILS AND OPERATIONAL RISK MODELLING 6.2.1 The Tails and Extreme Value Theory 6.2.2 The Case of Long Term Capital Management 6.2.3 The Stable Process Assumption 6.2.4 Operational Risk Modelling 6.3 ALLOCATING CAPITAL AND OTHER RISKS 6.3.1 Capital Allocation and Portfolio Contributions 6.3.2 Reputational and Other Risks 6.3.3 Hedging versus Capital 247 247 248 252 253 257 258 259 263 263 264 265 268 273 CHAPTER 7 n Bank Regulation and Capital Requirements 7.1 REGULATORY CAPITAL AND THE BASEL ACCORDS 7.1.1 Before Basel II: Basel I and the Market Risk Amendment 7.1.2 An Overview of Basel II 7.1.3 Basel II: Credit Risk without Mitigation 7.1.4 Basel II: Credit Risk Mitigation in the IRB Approaches 7.1.5 Basel II: Capital Rules for Positions That Have Been Securitised 7.1.6 Implications of the Basel Credit Risk Framework 7.1.7 Operational Risk in Basel II 7.1.8 Floors and Transitional Arrangements 7.2 BASEL II: BEYOND THE CAPITAL RULES 7.2.1 Pillar 2 in Basel II 7.2.2 Pillar 3 and Banks' Disclosures 7.2.3 The Impact of Basel II 275 276 276 285 287 295 298 299 300 303 303 303 305 306 PART THREE Treasury and Liquidity Risks CHAPTER 8 n The Treasury and Asset/Liability Management 8.1 AN INTRODUCTION TO ASSET/LIABILITY MANAGEMENT 8.1.1 The Trading Book, the Banking Book and the Treasury 8.1.2 Accounting for an Old-Fashioned Bank 8.1.3 Assets and Liabilities through Time 8.1.4 What Is ALM? 8.2 BANKING BOOK INCOME AND FUNDING THE BANK 8.2.1 Transfer Pricing 8.2.2 Interest Rate Risk in the Banking Book 8.2.3 Non-Interest Income and Operating Expenses 8.3 ALM IN PRACTICE 8.3.1 Risk in the Transfer Pricing Book 8.3.2 The Market Value of Portfolio Equity 8.3.3 Strategic Risk and Real Options 8.3.4 ALM Risk Reporting 8.3.5 P/L Translation and Hedging 8.3.6 The Role of the ALCO 311 311 312 314 316 318 319 319 323 325 326 326 328 330 331 332 333 8.4 TRADING BOOK ALM 8.4.1 Repo and Other Forms of Secured Funding 8.4.2 Practical Issues in the Funding of Trading Books 334 334 335 CHAPTER 9 n Liquidity Risk Management 9.1 LIQUIDITY OF SECURITIES AND DEPOSITS 9.1.1 What Is Liquidity Risk? 9.1.2 Liability Liquidity 9.1.3 Asset Liquidity under Ordinary Conditions 9.2 LIQUIDITY MANAGEMENT 9.2.1 Measures of Liquidity Risk and the Firm's Liquidity Profile 9.2.2 Policies, Procedures and the Regulatory Perspective 9.2.3 Upstreaming, Downstreaming and Corporate Structure 9.2.4 The Implications of Illiquidity for Pricing and Risk Measurement 9.3 OFF-BALANCE-SHEET LIQUIDITY AND CONTINGENT FUNDING 9.3.1 Positive Contingent Liquidity 9.3.2 Conduits 9.3.3 Negative Contingent Liquidity 9.4 STRESSES OF LIQUIDITY 9.4.1 Liquidity in a Crisis 9.4.2 Liquidity Stress Testing 9.4.3 The Liquidity Plan 337 337 338 340 341 345 345 347 348 348 350 350 351 353 353 354 356 357 PART FOUR Some Trading Businesses and Their Challenges CHAPTER 10 n An Introduction to Structured Finance 10.1 CONTRACTUAL RELATIONS 10.1.1 The Documentation of Derivatives and Credit Risk Mitigation 10.1.2 Credit Derivatives in the Form of Insurance 10.1.3 Enforceability and the Pros and Cons of Enforcement 10.2 ASSET-BACKED SECURITIES 10.2.1 Mortgage-Backed Securities 10.2.2 Other ABS and Pool Modelling 10.2.3 ABS Tranche Analysis 361 361 362 365 367 368 368 375 378 10.3 SECURITISATION STRUCTURES 10.3.1 CDO, CLO and Related Structures 10.3.2 Banking Using Securitisation 10.3.3 ABS in Principal Finance and Whole Business Securitisation 10.3.4 Some Revolving and Blind Securitisations 379 379 382 383 387 CHAPTER 11 n Novel Asset Classes, Basket Products, and Cross-Asset Trading 11.1 INFLATION-LINKED PRODUCTS 11.1.1 Inflation Indices 11.1.2 Inflation-Linked Bond Design 11.1.3 Retail Inflation-Linked Products 11.1.4 Lags and the Inflation-Linked Curve 11.1.5 Inflation Swaps 11.1.6 Pension Fund Risk Management 11.2 EQUITY BASKET PRODUCTS 11.2.1 Basket Options and Rainbow Products 11.2.2 Copulas and the Problem with Gaussian Correlation 11.3 CONVERTIBLE BONDS 11.3.1 Convertible Bond Structures 11.3.2 The Behaviour of Convertible Bonds 11.3.3 Modelling Convertibles 11.4 EQUITY/CREDIT TRADING 11.4.1 The Merton Model of Capital Structure 11.4.2 More Sophisticated Capital Structure Models 11.4.3 Equity/Credit Optionality and Hybrid Security Modelling 11.4.4 Credit Copulas and Credit Event Association 11.5 NEW PRODUCTS 11.5.1 The New Product Approval Process 11.5.2 Managing Product Complexity 11.5.3 Hedge Fund Risk Management CONCLUDING REMARKS FIGURES INDEX 391 391 392 394 396 397 399 401 405 405 407 411 412 413 414 419 419 424 425 427 429 429 432 433 437 441 445

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