Quantitative Credit Portfolio Management Practical Innovations for Measuring and Controlling Liquidity, Spread, and Issuer Concentration Risk

by Ben Dor, Arik; Dynkin, Lev; Hyman, Jay; Phelps, Bruce D.

• ISBN13: 9781118117699
• ISBN10: 1118117697
• Edition: 1st
• Format: Hardcover
• Copyright: 2011-12-06
• Publisher: Wiley

Summary

An innovative approach to post-crash credit portfolio management Credit portfolio managers traditionally rely on fundamental research for decisions on issuer selection and sector rotation. Quantitative researchers tend to use more mathematical techniques for pricing models and to quantify credit risk and relative value. The information found here bridges these two approaches. In an intuitive and readable style, this book illustrates how quantitative techniques can help address specific questions facing today's credit managers and risk analysts. A targeted volume in the area of credit, this reliable resource contains some of the most recent and original research in this field, which addresses among other things important questions raised by the credit crisis of 2008-2009. Divided into two comprehensive parts, Quantitative Credit Portfolio Management offers essential insights into understanding the risks of corporate bonds-spread, liquidity, and Treasury yield curve risk-as well as managing corporate bond portfolios. Presents comprehensive coverage of everything from duration time spread and liquidity cost scores to capturing the credit spread premium Written by the number one ranked quantitative research group for four consecutive years by Institutional Investor Provides practical answers to difficult question, including: What diversification guidelines should you adopt to protect portfolios from issuer-specific risk? Are you well-advised to sell securities downgraded below investment grade? Credit portfolio management continues to evolve, but with this book as your guide, you can gain a solid understanding of how to manage complex portfolios under dynamic events.

Author Biography

ARIK BEN-DOR, PhD, is a Director and Senior Analyst in the Quantitative Portfolio Strategy (QPS) Group at Barclays Capital Research. He joined the group in 2004 after completing a PhD in finance from the Kellogg School of Management. Ben-Dor has published extensively in the Journal of Portfolio Management, Journal of Fixed Income, and Journal of Alternative Investments on innovative approaches to managing risk in credit portfolios and on performance analysis and optimization of hedge fund portfolios.

LEV DYNKIN, PhD, is the founder and Global Head of the Quantitative Portfolio Strategy Group at Barclays Capital Research. Dynkin and the QPS group joined Barclays Capital in 2008 from Lehman Brothers where the group was a part of fixed income research since 1987—one of the longest tenures for an investor-focused research group on Wall Street. QPS was rated first in Quantitative Portfolio Research by Institutional Investor magazine for all three years that this category was included in their fixed income survey. Dynkin is a member of the editorial advisory board of the Journal of Portfolio Management. He coauthored, with other members of QPS (including Hyman and Phelps), Quantitative Management of Bond Portfolios.

JAY HYMAN, PhD, is a Managing Director in the Quantitative Portfolio Strategy Group at Barclays Capital Research. He joined the group in 1991 and has since worked on issues of risk budgeting, cost of investment constraints, improved measures of risk sensitivities, and optimal risk diversification for portfolios spanning all fixed income asset classes. Hyman helped develop a number of innovative measures that have been broadly adopted by portfolio managers and that have changed standard industry practice.

BRUCE D. PHELPS, PhD, is a Managing Director in the Quantitative Portfolio Strategy Group at Barclays Capital Research, which he joined in 2000. Prior to that, he was an institutional portfolio manager and head of fixed income at Ark Asset Management. Phelps was also senior economist at the Chicago Board of Trade, where he designed derivative contracts and electronic trading systems, and an international credit officer and foreign exchange trader at Wells Fargo Bank. Phelps is a member of the editorial board of the Financial Analysts Journal.

Table of Contents

Foreword	p. xvii
Introduction	p. xix
Notes on Terminology	p. xxvii
Measuring the Market Risks of Corporate Bonds
Measuring Spread Sensitivity of Corporate Bonds	p. 3
Analysis of Corporate Bond Spread Behavior	p. 5
A New Measure of Excess Return Volatility	p. 20
Refinements and Further Tests	p. 25
Summary and Implications for Portfolio Managers	p. 30
Appendix: Data Description	p. 34
DTS for Credit Default Swaps	p. 33
Estimation Methodology	p. 40
Empirical Analysis of CDS Spreads	p. 41
Appendix: Quasi-Maximum Likelihood Approach	p. 51
DTS for Sovereign Bonds	p. 55
Spread Dynamics of Emerging Markets Debt	p. 55
DTS for Developed Markets Sovereigns: The Case of Euro Treasuries	p. 59
Managing Sovereign Risk Using DTS	p. 66
A Theoretical Basis for D7S	p. 73
The Merton Model: A Zero-Coupon Bond	p. 74
Dependence of Slope on Maturity	p. 77
Quantifying the Liquidity of Corporate Bonds	p. 81
Liquidity Cost Scores (LCS) for U.S. Credit Bonds	p. 82
Liquidity Cost Scores: Methodology	p. 88
LCS for Trader-Quoted Bonds	p. 92
LCS for Non-Quoted Bonds: The LCS Model	p. 96
Testing the LCS Model: Out-of-Sample Tests	p. 102
LCS for Pan-European Credit Bonds	p. 113
Using LCS in Portfolio Construction	p. 123
Trade Efficiency Scores (TES)	p. 129
Joint Dynamics of Default and Liquidity Risk	p. 133
Spread Decomposition Methodology	p. 138
What Drives OAS Differences across Bonds?	p. 139
How Has the Composition of OAS Changed?	p. 141
Spread Decomposition Using an Alternative Measure of Expected Default Losses	p. 145
High-Yield Spread Decomposition	p. 147
Applications of Spread Decomposition	p. 147
Alternative Spread Decomposition Models	p. 150
Appendix	p. 152
Empirical versus Nominal Durations of Corporate Bonds	p. 157
Empirical Duration: Theory and Evidence	p. 159
Segmentation in Credit Markets	p. 73
Potential Stale Pricing and Its Effect on Hedge Ratios	p. 173
Hedge Ratios Following Rating Changes: An Event Study Approach	p. 179
Using Empirical Duration in Portfolio Management Applications	p. 186
Managing Corporate Bond Portfolios
Hedging the Market Risk in Pairs Trades	p. 197
Data and Hedging Simulation Methodology	p. 199
Analysis of Hedging Results	p. 200
Appendix: Hedging Pair-Wise Trades with Skill	p. 208
Positioning along the Credit Curve	p. 213
Data and Methodology	p. 214
Empirical Analysis	p. 217
The 2007-2009 Credit Crisis	p. 229
Spread Behavior during the Credit Crisis	p. 229
Applications of DTS	p. 234
Advantages of DTS in Risk Model Construction	p. 244
A Framework for Diversification of Issuer Risk	p. 249
Downgrade Risk before and after the Credit Crisis	p. 250
Using DTS to Set Position-Size Ratios	p. 257
Comparing and Combining the Two Approaches to Issuer Limits	p. 260
How Best to Capture the Spread Premium of Corporate Bonds?	p. 265
The Credit Spread Premium	p. 266
Measuring the Credit Spread Premium for the IG Corporate Index	p. 266
Alternative Corporate Indexes	p. 279
Capturing Spread Premium: Adopting an Alternative Corporate Benchmark	p. 288
Risk and Performance of Fallen Angels	p. 295
Data and Methodology	p. 298
Performance Dynamics around Rating Events	p. 303
Fallen Angels as an Asset Class	p. 319
Obtaining Credit Exposure Using Cash and Synthetic Replication	p. 337
Cash Credit Replication (TCX)	p. 338
Synthetic Replication of Cash Indexes	p. 351
Credit RBIs	p. 358
References	p. 367
Index	p. 371
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