This book provides an advanced guide to correlation modelling for credit portfolios, providing both theoretical underpinnings and practical implementation guidance. The book picks up where pre-crisis credit books left off, offering guidance for quants on the latest tools and techniques for credit portfolio modelling in the presence of CVA (Credit Value Adjustments). Written at an advanced level, it assumes that readers are familiar with the fundamentals of credit modelling covered, for example, in the market leading books by Schonbucher (2003) and O'Kane (2008). Coverage will include the latest default correlation approaches; correlation modelling in the 'Marshall-Olkin' contagion framework, in the context of CVA; numerical implementation; and pricing, calibration and risk challenges.
The explosive growth of credit derivatives markets in the early-to-mid 000's was bought to a close by the 2007 financial crisis, where these instruments were held largely to blame for the economic downturn. However, in the wake of increased regulation across all financial instruments and the challenge of buying and selling bonds in large amounts, credit derivatives have once again been found to be the answer and the market has grown significantly.
Written by a practitioner for practitioners, this book will also interest researchers in mathematical finance who want to understand how things happen and work 'on the floor'. Building the reader's knowledge from the ground up, and with numerous real life examples used throughout, this book will prove a popular reference for anyone with a mathematical mind interested credit markets.
Youssef Elouerkhaoui is a Managing Director and the Global Head of Credit Quantitative Analysis at Citi. His group supports all modelling and product development activities for Credit Markets. This includes: Flow, Correlation, Options and Exotics, CDOs and Emerging Markets. He also supports CVA, Funding and Regulatory Capital for Credit Markets. Prior to this, he was a Director in the Fixed Income Derivatives Quantitative Research Group at UBS, where he was in charge of model development for Structured Credit. Before joining UBS, Youssef was a Quantitative Research Analyst at Credit Lyonnais Supporting the Interest Rates Exotics business. He has also worked as a Senior Consultant in the Risk Analytics and Research Group at Ernst & Young. He is a graduate of Ecole Centrale Paris and he holds a PhD in Mathematics from Paris-Dauphine University.
Youssef is author to numerous professional and academic research articles in mathematical finance for both professional and academic journals, contributed to the book 'Credit Correlation: Life After Copluas' (Lipton and Rennie) and is a regular speaker at all the major quantitative finance conferences, including Risk's Quant Europe, ICBI's Global Derivatives, and WBSs Fixed Income Conference.
Introduction and Context
Part I - Theoretical Tools
0. Credit Modelling Fundamentals - Filtrations, Point Processes and Intensities
1. Expectations in the Enlarged Filtration - The Generalized Dellacherie Formula
2. The Basics of Default Correlation Modelling
3. Default Correlation Calibration - Link between Copulas and Conditional Jump Diffusions
Part II - Correlation Models: Practical Implementation
4. Correlation Demystified: A General Overview
5. An Introduction to the Marshall-Olkin Copula
6. Numerical Tools: Basket Asymptotic Expansions
7. CDO-Squared: Correlation of Correlation
8. Second Generation Models: From Flat Correlation to Correlation Skew
9. Third Generation Models: From Static to Dynamic Models
10. Pricing in a Dynamic Credit Model
Part III - Advanced Topics: Pricing and Risk Management
11. Practical Applications of Dynamic Models: Pricing Path-Dependent Credit Exotics
12. Base Correlation Calibration with a Stochastic Recovery Model
13. Hedging in Incomplete Credit Markets: JTD vs CR01
Part IV - The Next Challenge
14. New Frontiers in Credit Modelling: the CVA Challenge