Loan Pricing & Structuring Masterclass: M2 - Advanced Loan Pricing & Structured Debt Products
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Course Background This comprehensive programme provides delegates with a full understanding of loan pricing from the perspective of banks’ balance sheet management and credit risk. Building up from an understanding of the fundamental role of asset and liability management, the course covers the Funds Transfer Pricing (FTP) process and its pivotal role in pricing liquidity risk. It provides practical, hands-on pricing, revaluation and risk analysis of the main types of loan structure, teaching delegates the ability to securitise loan portfolio assets for secondary market investors. The course also provides a working understanding of interest rate derivatives in the context of their role in ri…Frequently asked questions
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Day 1 Interest rate derivatives: Purpose, pricing and valuation Risk management Lender perspective Prepayment risk factors Interest rate Borrower credit rating improvement (credit migration) Availability of equity refinancing Credit risk Fixed rate loan duration risk Floating rate loan basis risk Borrower perspective Floating rate borrowers: Risk of rising rates Fixed rate borrowers: Opportunity cost of falling interest rates Foreign currency borrowers Accessing international capital markets FX rate risk Foreign currency interest rate risk Principal derivative types Interest rate swaps Fixed for floating Basis swaps, e.g. deposit rate basis into 3 month JIBOR Forward start swaps Cross Currency Swaps (CCS) Purpose Hedging Enabling clients to access cheaper borrowing Comparative borrowing advantage Types Fixed for fixed CCS Fixed for floating CCS Pricing Pricing at inception Valuation during a CCS's life Analysis of clients' financing and currency risk management requirements Asset cash flows, e.g. income from commodity assets in US$ Liability cash flows, e.g. interest payments in local currencies Exercises: Structuring cross currency swaps – Hedging – Enabling clients to access cheaper borrowing – Comparative borrowing advantage Optionality in loan structures Fundamental concepts Payoff profiles Prepayment clauses American-style European-style Default as an option Probability analysis of uncertain outcomes Central role of volatility Other key factors including Time to exercise date Strike rate Current rate Loans with embedded options Structure, e.g. Bermudan Borrower call option, e.g. full or part prepayment option Yield analysis Yield to call Yield to worst Exercise: Calculating yield to worst Valuation Value of non-callable loan less value of option Interest rate lattices Binomial trees Forward rates Interest rate volatility Risk analysis Impact of optionality Effective duration Lender put option (right to enforce early redemption of loan) Pricing optionality Key concepts Volatility Boundary conditions Time to exercise date Strike rate Current rate Pricing models for interest rate related options Forward rates Assumed probability distribution Summary: How enhanced loan features meet clients' needs Fulfilling financing requirements Minimising overall cost of financing Exercise: Pricing a fixed loan with a call option using a three period binomial option pricing model: – Non-callable loan – Call option – Callable loan Day 2 Swaptions Swaptions as an option to exercise swap agreement at a given point in the future Estimated cash flow profile Pricing: The Black (1976) model Exercise: Valuation of a swaption Caps, floors and collars Understanding the purpose of interest rate caps, floors and collars Benefit to client of interest rate caps Benefit to bank of interest rate floors Financing cost reduction effect for client of Collar vs. Cap Interest rate caps as a series of caplets Pricing caps, floors and collars Exercise: Valuation of an interest rate caplet Counterparty risk in derivative transactions: Credit Valuation Adjustment (CVA) Pricing data sourcing and derivation Deriving pricing factors from internal and external sources Bootstrapping: Deriving discount rates for loan pricing from market data Interpolation: Derivation of, e.g. 3 and 6 month rates from longer term rates Projection: Derivation of 18 month rates from annual rates Internal ratings approach Bond market yields and credit spreads Credit Default Swap (CDS) markets CDS premia interpretation Translating CDS premia into discount factors to price loans Deriving minimum loan pricing levels: Opportunity cost analysis Bond market yield curves CDS markets Exercise: Deriving discount rates from debt markets and using them to price a loan Loan portfolio analysis and management Understanding and managing loan portfolio risk Correlation risk Borrowers Collateral Effective diversification Residual risk factors Interest rate Collateral values, e.g. property Equity markets Commodity markets Exercise: Hedging loan portfolio duration risk using interest rate derivatives Structuring, pricing and risk management of Shari’a compliant loan products Review of Islamic banking principles and structures Overview of key Shari'a financial principles Usury: Riba Uncertainty of outcome: Gharar and Maysir Shared risk-taking: Mukhatarah Forbidden activities: Haraam Fundamental concepts in contemporary Islamic finance Sharing of risk between contracting parties Cost plus mark-up (Murabahah) Profit sharing (Mudharabah) Joint venture (Musharakah) Payment of religious tax (Zakat) Case studies: Translating Shari'a guidelines into loan products Deferred payment structures, e.g. Bai’ Bithaman Ajil (BBA), Bai’ al’ inah Collateral-based lending, e.g. Murabahah Leasing plus sale structure, e.g. Ijara wa Iqtina Trade financing, e.g. Istisna, Bai’ Salam Floating rate and repayment instalment structures, e.g. Musharakah Mutanaqisah (MMQ) Joint venture (risk sharing) structures, e.g. Musharakah Project financing Introduction Due diligence: Assessing the risk of projects Understanding the roles of the participants and identifying opportunities Financing and risk management Project financing pre-contract requirements and hedging Structured financing during project SPV lending structures Using tailored swaps to structure project financing lending transactions Swaptions Forward start swaps Amortising swaps Accreting swaps Risk management Documentation Collateral and security Project financing-based Islamic bond structures Sukuk investment into the assets of the project Meets with the requirements for risk-sharing and asset ownership rather than debt
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