The Oxford Guide to Financial Modeling

Name: The Oxford Guide to Financial Modeling | Applications for Capital Markets, Corporate Finance, Risk Management and Financial Institutions
Brand: OUP eBook
Price: 111.99 EUR
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Applications for Capital Markets, Corporate Finance, Risk Management and Financial Institutions

Thomas S. Y. Ho Sang Bin Lee(Author)

OUP eBook (Publisher)

Published on 15. January 2004

762 pages

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978-0-19-972770-4 (ISBN)

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The essential premise of this book is that theory and practice are equally important in describing financial modeling. In it the authors try to strike a balance in their discussions between theories that provide foundations for financial models and the institutional details that provide the context for applications of the models. The book presents the financial models of stock and bond options, exotic options, investment grade and high-yield bonds, convertible bonds, mortgage-backed securities, liabilities of financial institutions--the business model and the corporate model. It also describes the applications of the models to corporate finance. Furthermore, it relates the models to financial statements, risk management for an enterprise, and asset/liability management with illiquid instruments. The financial models are progressively presented from option pricing in the securities markets to firm valuation in corporate finance, following a format to emphasize the three aspects of a model: the set of assumptions, the model specification, and the model applications. Generally, financial modeling books segment the world of finance as "investments," "financial institutions," "corporate finance," and "securities analysis," and in so doing they rarely emphasize the relationships between the subjects. This unique book successfully ties the thought processes and applications of the financial models together and describes them as one process that provides business solutions. Created as a companion website to the book readers can visit www.thomasho.com to gain deeper understanding of the book's financial models. Interested readers can build and test the models described in the book using Excel, and they can submit their models to the site. Readers can also use the site's forum to discuss the models and can browse server based models to gain insights into the applications of the models. For those using the book in meetings or class settings the site provides Power Point descriptions of the chapters. Students can use available question banks on the chapters for studying.

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Intro
Contents
Model List
PART I: DERIVATIVES VALUATION
1. Introduction: Discounted Cash Flow Method
1.1 Examples of Financial Issues
1.2 FinancialModels
1.3 Basics of Modeling: Present Value and Measures of Risk
1.4 Summary
2. Equity Market: The Capital Asset Pricing Model
2.1 Real and Financial Sectors
2.2 Stocks and Stock Markets
2.3 Perfect Capital Market
2.4 Efficient Capital Market Hypothesis
2.5 Diversification
2.6 Capital Asset Pricing Model (CAPM)
2.7 Beta-The Systematic Risk
2.8 The Stock Model-Dividend Discount Model
2.9 An Application of the Capital Asset Pricing Model in Investment Services
2.10 Empirical Tests of the Capital Asset Pricing Model
2.11 Summary
Appendix A. Expectations and Standard Deviations
Appendix B. A Summary of the CAPM
3. Bond Markets: The Bond Model
3.1 Bond Mathematics
3.2 Bonds and Bond Markets
3.3 Swap Markets
3.4 Economics of the Yield Curve
3.5 The Bond Model
3.6 Forward Prices and Forward Rates
3.7 Bond Analysis
3.8 Applications of the Bond Analytics
3.9 Law of One Price: An Arbitrage Trade and Fair Value Anlaysis
3.10 Summary
Appendix A. Taylor Expansion
Appendix B. The Derivation of Macaulay Duration and Convexity
Appendix C. Duration and Convexity in Measuring Price Sensitivity
4. Equity Options: the Black-Scholes Model
4.1 Description of an Option
4.2 Institutional Framework
4.3 Put-Call Parity
4.4 The Main Insight of the Black-Scholes Model
4.5 Valuation Methods
4.6 Relationships of Risk-Neutral and Market Binomial Lattices
4.7 Option Behavior and the Sensitivity Analysis
4.8 Extensions of the Black-Scholes Model
4.9 Option Pricing Procedure and Analytic Framework
4.10 Applications of Option Models
4.11 Accounting for Employee Stock Options
4.12 Intuitive Explanations of the Behavior of an Equity Option
4.13 Summary
Appendix A. Derivation of the Black-Scholes Continuous Time Model Using Different Numeraires
Appendix B. The Relationship Between the Time Decay and the Gamma of a Delta-Neutral Portfolio
Appendix C. Pathwise Valuation
Appendix D. Derivation of Discrete Time Parameters
Appendix E. Monte Carlo Simulation and Finite Difference Method
5. Interest Rate Derivatives: Interest Rate Models
5.1 Interest Rate Movements: Historical Experiences
5.2 The Three-Factor Yield Curve Movement Model
5.3 Equilibrium Models
5.4 Arbitrage-Free Models
5.5 A Comparison of Models
5.6 Generalizations of Interest Rate Models
5.7 Summary
Appendix A. Yield Curve Movements Represented by the Principal Components
Appendix B. Derivation of Ho-Lee, Extended Ho-Lee, and Ho-Lee Two-Factor Models
6. Implied Volatility Surface: Calibrating the Models
6.1 Implied Volatility Surface and Benchmark Securities
6.2 Price Quotes of Benchmark Securities
6.3 Valuation of Interest Rate Derivatives Using Market Benchmark Prices
6.4 Calibration of the Black-Derman-Toy Model
6.5 Calibration of the Ho-Lee Models
6.6 Calibration of theLongstaff-Santa-Clara-Schwartz "String" Model
6.7 Calibration of the Brace-Gatarek-Musiela/Jamshidian Model (the LIBOR Market Model)
6.8 Comparing the Black Models and the Interest Rate Models
6.9 Applications of Interest Rate Models
6.10 Key Rate Duration and Dynamic Hedging
6.11 Pathwise Valuation and Decomposition of an Option
6.12 Intuitive Explanation of the Bond Option Valuation
6.13 Lecture on Convexity
6.14 Summary
7. Exotic Options: Bellman's Optimization, the Filtration Model, and the n-Factor Model
7.1 Options with Alternative Payoffs at Expiration
7.2 Options with Boundary Conditions
7.3 Options with the Early Exercise Feature (American) and the Bellman Optimization
7.4 Compound Options
7.5 Options with Look-back Features (Asian) and the Filtration Model
7.6 Chooser Option
7.7 Multiple Risk Sources
7.8 Constant Maturity Swap
7.9 Interest Rate Spread Option
7.10 Options on Forward/Futures Contracts
7.11 Commodity Options
7.12 An Overview of the Valuation Framework
7.13 Summary
Appendix A. Optimal Early Exercise Using Simulations
Appendix B. N-Factor Lattice Model
Appendix C. A Numerical Example of Dynamic Programming
PART II: CORPORATE LIABILITIES
8. Investment Grade Corporate Bonds: Option Adjusted Spreads
8.1 Describing a Corporate Bond
8.2 Valuation of a Bond
8.3 Numerical Examples
8.4 Liquidity (Marketability) Spread
8.5 Credit Scoring Approaches
8.6 Bond Analysis
8.7 Numerical Example: Valuing a Eurobond Issue
8.8 Applications of Bond Analytics
8.9 Explaining the Concept of the Arbitrage-free Condition on a Solemn Occasion
8.10 Summary
Appendix. Callable Bond and Sinking Fund Bond Pricing
9. High-Yield Corporate Bonds: The Structural Models
9.1 An Example of a High-Yield Bond
9.2 Institutional Framework of Bankruptcy and Bankruptcy Proceedings
9.3 The Fisher Model
9.4 An Actuarial Model
9.5 Historical Experience and Estimation of the Parameters of Default Models
9.6 The Reduced Form Models
9.7 The Structural Model
9.8 Valuation of a Debt Package Using a Compound Option Model
9.9 Empirical Evidence
9.10 A Review of the High Yield Bond Models
9.11 Analysis of the McLeodUSA Bond
9.12 Analysis of Credit Risk
9.13 Summary
10. Convertibles, MBS/CMO, and Other Bonds: The Behavioral Models
10.1 Convertible Bonds
10.2 Mortgage-Backed Securities (Pass-through Certificates)
10.3 Collateralized Mortgage Obligations (CMO)
10.4 Other Bonds
10.5 Credit Derivatives
10.6 Managing a CMO Portfolio
10.7 Summary
11. Financial Institutions' Liabilities: Required Option Adjusted Spread
11.1 Balance Sheet Analysis-Book Value
11.2 Fair Values
11.3 Liability Modeling
11.4 Bank Liabilities
11.5 Property and Casualty Insurance
11.6 Life Insurance Products
11.7 Pension Liabilities
11.8 Applications of the Financial Models to Liability Management
11.9 "Not If, But When
11.10 Summary
PART III: CORPORATE FINANCE
12. Valuation of a Firm: The Business Model
12.1 Descriptions of a Firm
12.2 Traditional Firm Valuation Methodologies
12.3 Corporate Financial Decisions and Firm Value Maximization
12.4 Miller-Modigliani Theories
12.5 Free Cash Flow Discount Model
12.6 Business Model
12.7 Implications of the Valuation Model
12.8 Analyses of the Business Model
12.9 From the Senior Management Perspective
12.10 Summary
Appendix A. The MM Propositions
Appendix B. The Miller Model
13. Strategic Value of a Firm: Real Options
13.1 Characteristics of a Growth Company-An Example of Real Options
13.2 Salient Features of Real Options
13.3 Examples of Real Options in Capital Budgeting
13.4 Examples of Businesses with Embedded Options
13.5 Strategic Value of a Firm
13.6 Analysis of the Real Option Value
13.7 A Business Model with Embedded Options: Starbucks Coffee Japan
13.8 A Business Model Approach and the Free Cash Flow Discounting Approach-A Comparison
13.9 Empirical Implications of the Business Model
13.10 Implications of the Business Model
13.11 Empirical Research on Real Options
13.12 What is Financial Modeling to Senior Management?
13.13 Summary
Appendix. The Business Model
14. Optimal Corporate Financial Decisions: Corporate Model
14.1 Corporate Financial Planning-the DFA Approach
14.2 Extensions of the MM Theory
14.3 Empirical Evidence on the MM Theory and Its Extensions
14.4 The Corporate Model
14.5 Specifications of the Corporate Model
14.6 A Comparison with Previous Research
14.7 New Perspectives in Viewing Firms as Contingent Claims
14.8 Principles of Risk Management
14.9 Summary
Appendix. The Firm Model
15. Risk Management
15.1 Risk Measurement-Value at Risk
15.2 Market Risk
15.3 Delta Normal Methodology
15.4 Historical Simulation Methodology
15.5 Monte Carlo Simulation Methodology
15.6 Extreme Value Theory
15.7CreditRisk
15.8 Risk Reporting
15.9 Risk Monitoring
15.10 Risk Management
15.11 Boardroom with a View-The Coffin Story
15.12 Summary
Appendix A. Selected Historical Financial Losses
Appendix B. Lessons Learned from the Historical Financial Losses
16. Financial Institutions: Applications of Financial Models
16.1 An Overview of the Financial Sector
16.2 Organization and the Business Model of a Financial Institution
16.3 Financial Disclosures on Valuation
16.4 Risk Management
16.5 Capital Allocation and Risk-Adjusted Performance Measures
16.6 Financial Modeling of a Financial Institution
16.7 Applications: Asset and Liability Management
16.8 Regulatory Issues
16.9 Summary
Appendix A. What Actions Have Commercial Banks Taken?
Appendix B. Capital Requirements and Risk-based Capital
17. Structured Finance: Foreign Exchange Models
17.1 Background
17.2 Economics of the Structure
17.3 Deal Structure
17.4 Pricing
17.5 Simulations
17.6 VaR Calculation
17.7 Remarks
17.8 Concluding Remarks on Financial Modeling
Appendix A. Total Return Swap Terms and Conditions as of January 29,1997
Appendix B. Indonesian Rupiah-LinkedNotes Final Terms and Conditions
Appendix C. The Put-Call Parity
18. Concluding Thoughts
18.1 Conceptual Development of Financial Models
18.2 Overview of Valuation Models
18.3 Applications of the Financial Models
18.4 Financial Modeling as a Process
18.5 Looking into the Future
18.6 The World of Contingent Claims
19. Technical Matters: Market Model and Binomial Lattices
19.1 Building a Market Model in a Binomial Lattice 634
19.2 A General Approach to Valuation
19.3 Comparison of the Option Derivation Between Discrete Time and Continuous Time
Appendix A. Continuous Time Versions of the Ho-Lee Models
Appendix B. Summary of Continuous Time Interest Rate Models
Appendix C. Recombining Lattice
Glossary of Notations
Glossary of Terms
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The Oxford Guide to Financial Modeling

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