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Interest Rate Risk Management – Challenges in the Post Crisis/ Basel III Regime

The management of Bank and Insurance Interest rate risk has changed rather substantially after the financial crisis of 2008 and especially after the introduction of the new Basel III capital adequacy regulatory standards. As banks are continuously striving to achieve an optimal return on their regulatory and economic capital deployed, the OTC hedges endeavored are imposing substantial challenges. Starting with the severe credit conversion factors under the Basel III regime for the counterparty risk (CVA) associated with OTC derivatives and structured financing transactions to the omnipresence of daily collateral margining in ISDA CSA contracts, the industry is going through unprecedented challenges.

Above and beyond, the IRBB processes finalized by the Basel committee in April 2016 and expected to be fully implemented by banks in 2018 are imposing significant challenges to banks ALM practices world-wide, a topic which will be amply addressed during this course. This two day course is addressing some of these challenges and attempts to build on best practices employed by leading treasury and capital markets professionals.

Who should attend

  • Bank treasury managers
  • Fixed Income traders
  • Money Market and Fixed Income Derivatives Traders
  • Market Risk Managers
  • Counterparty Risk Managers
  • Internal/ external Auditors
  • Product Control and New Product Process Managers
  • Management and Financial Accountants
Day One
  • A review of the Cash and the main Interest Rate Derivatives Products
  • Demystifying the math inherent in Interest Rate Models
    • The basics of stochastic calculus:
      • Filtrations and martingales
      • Risk neutral pricing
      • Brownian Motions and Quadratic Variation
    • Basics of Options Pricing theory
      • The Fundamental theorems of Asset Pricing
      • The Black-Scholes-Merton Options Pricing Framework
      • The Feynman-Kac Transformations
      • Girsanov´s Theorem and change of Numeraire – Risk Neutral Measures
    • Traditional Interest Rate Models
      • Equilibrium Models
        • Vasicek Model
        • Log Normal (Rendelman & Barter) Model
        • Cox Ingersol Ross Model
      • No Arbitrage Models
        • Ho-Lee Model
        • Hull-White Model
      • HJM (Heath-Jarrow-Morton) Models
    • Pricing Derivatives under Risk Neutral Measures
      • The Merton Pricing Formula
      • BGM (Brace Gatarek Musiela) Models (LIBOR Market Models)
      • The Black ’76 Model for Cap Pricing
    • Implied Volatility Challenges (Smiles and beyond)
    • Local Volatility Models
    • Stochastic Volatility Models
      • Stein & Stein
      • Heston
    • Yield Curve Challenges
    • The Market Dynamics that lead to OIS Discounting gaining prominence
      • Basis Swap Issues
      • Bilateral CVA Issues
      • Collateral Issues under ISDA CSA
      • Daily Margining: Cash vs Cash and Cash vs “Cash Equivalent”
      • Daily Interest Linked to the O/N Fed Rate (or equivalents)
    • Creating the OIS Curve
      • Brief Description of the International OIS Markets
      • Calculation of the OIS Floating Leg Interest – Example in Excel
      • Key Issues:
        • Short Term OIS Curve Rates
        • Seasonality issues in Reference Rates
        • Medium & Long Term OIS Rates
        • Coupons
        • Smooth Implied forward Rates – use of Cubic Splines
      • Bootstrapping LIBOR Curves off OIS Rates
        • Bootstrapping Issues when Collateral is posted in different currencies
        • Using FX Swaps for Discounting Purposes
        • Example of Bootstrapping non US$ Swap Discounting Curves with US$ collateral
        • Idiosyncracies of the EUR OIS Curves
      • Interpolation Issues and Applications to Swap Pricing
        • Discrepancies between the Short Segment and the Mid/Long Segments – smoothing
        • Linear Models
        • Splines & Hermitian polynomials
        • The Monotone Convex Method
        • Practical Examples – Group Case Study
Day Two
  • IRRBB - 2016     
    • Shock and Stress Scenarios (Principle 4)
    • Behavioral Models (Principle5):
      • Replicating Portfolios
      • Stochastic Optimization Models
      • Option adjusted spread Models
    • Internal validation Requirements (IMS) Principle 6)
    • Disclosure Requirements: ΔEVE & ΔNII (Principle 7)
  • CVA Challenges:
    • Counterparty Risk Measurement
      • PFE Profile
      • Impact of Multi-party netting & collateral (case study)
      • Monte Carlo Simulation Methods
      • Roll-off Risk
    • Collateral Models – Best Practices
    • Mitigating Counterparty risk
      • Credit Derivatives as Hedging Instruments
      • Case Study for a “wrong way exposure”
      • Collateral Hedges
      • Margins
      • Exposure Limits
      • Re-Couponing
      • ISDA Netting Agreements
      • Resets
      • Breakup clauses
    • Application for Country Risk (Country as a Counterparty) – Case Discussion
    • Limit Management Systems – Best Practices
    • Key Requirements of a Counterparty Limit System
      • Setting counterparty Limits congruent with Rating & Business policy
    • Interface with Credit Limit System
      • Interface with Accounting & Capital Management System
    • Industry widely used “off the shelf” Limit Systems
    • Illustration of RiskVision Application
    • The New Basel Accord Stipulations (CVA and CCP) and Impacts on Counterparty Risk