Monday, November 7, 2011

Fixed income (finance) Understanding Credit and Bank Loans CFA FRM

CFA FRM Fixed income (finance) Understaing Credit and Bank Loans

Introduction
Fixed income is a very important area when it comes to CFA and FRM. To understand this subject you need patience and a little bit of mathematical acumen. Even if you don't know math and things like differnentiation, double differnetial, interpretation of 1st and 2nd mathematical derivative then also you can understand it if you have patience to look into. For example to understand the various interpretation of duration you need to know a little bit of partial differentiation and taylor series expansions.

  • There are 2 graphs which are very important:
  • YTM vs Price where we use Duration and Convexity to compute the relations.
  • YTM vs Mautrity which is taken from market which could be of any form. There are various risks which make this graph. There are 4 types of risk.
  • Also to understand is boot straping; and how different spot rates are calculated from the rates given by federal reserve.
  • Option adjusted spread.
  • Duration, modified, callable puttabe duration
  • Convexity and negative Convexity
  • Bond equivalent yield, it has some very important concept. Understand these cases where one year compunded annualy, one year compounded semiannually, seminannual compounded semiaanually, semiannual compounded yearly.

PVBP=duration*0.0001*value
% change in price = duration effect + convexity effect  = - duration*dy + [convexity * dy^2]*100


If we have bond price and coupon then don't do the sort cut, do the longer way by taking PV, pmt, time. I did a mistake when I divided the coupon by market price to find the YTM. I discovered this controversial point at the last. I will post the solution in detailed way here.

Fisher equation and other relations of nominal risk free rate with real risk free and inflation is based on macro economics, but used extensively used in bond market.

There are various risks attached with bond and common sense needs to be applied to get to meaning of some of the terms that we donot know.

Mathematical derivation of modified and effective duration.

Fixed Income CFA FRM for Dummies

In CFA Level 2 this subject is one of easier one with Binomial diagrams, dimple issues.


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