Formula Sheet

Bond Valuation
n
Ct
FV
P0

t
(1 R) n
t 1 (1 R)
Share Valuation
P0

D1
D2
D

...
2
(1 k ) (1 k )
(1 k )

D0 ( 1 g )
(k g )

P0

Maturity Model with a portfolio of assets and liabilities

Mi Wi1M i1 Wi 2 M i 2 ... Win M in

Duration
N

CFt DFt t

t 1
N

CFt DFt

t 1

PVt

t 1
N

PVt

t 1

Measuring price sensitivity with duration :

P
R
D

P
1 R

R
R
E DA A
DL L

(1 R)
(1 R)

If the level of interest and expected shock to interest rates are the same for both assets and
liabilities, then:
R
E DA DL k A
(1 R)
Duration and Convexity
P
R
1
D
CX (R) 2
P
(1 R) 2
Repricing Model on interest rate risk :
NIIi = (GAPi)Ri = (RSAi-RSLi) Ri

Simple promised return on loan :

Loan rate = Base Rate + Credit risk premium or margin
Contractually Promised return on loan :
1+k = 1 + [f + (BR+m)] / [1- b(1-R)]
Expected return on loan : E(r) = p(1+k).
Term Structure Derivation of Credit Risk:
p (1+ k) = 1+ i
or
[(1 - p) (1 + k)] + [p(1 + k)] = 1 + i
K I = = (1 + i) / ( + p p) (1 + i)
RAROC = one year income on a loan / loan (asset) at risk or capital at risk
Loan (asset) at risk or capital at risk = DLN = -DLN x LN x (DR/(1+R))
Credit Metrics : VARone day = P 1.65 std dev
CreditRisk+ Model :
Probabilit y of n defaults

e -m m n
n!

Concentration Limits for a Loan Portfolio:

Concentration limit Maximum loss as a percentage of capital

1
Loss rate

KMV Portfolio Manager Model :

Expected return on a loan to borrower i Ri AISi - ELi AISi - EDFi LGDi
Risk of a loan to borrower i (i):

i ULi Di LGDi EDFi 1 EDFi LGDi

Net FX exposure of an FI:= (FX assetsi FX liabilitiesi) + (FX boughti FX soldi)
= Net foreign assetsi + Net FX boughti

Promised return on a loan commitment :

(f1+ f2(1-dd)+ (BR+m) dd) )/ (dd- [b(dd)(1-RR)] )
Daily earnings at risk (DEAR) = Dollar market value of the position Price sensitivity x
Potential adverse move in yield , or
Daily earnings at risk (DEAR) = Dollar market value of the position Price volatility
Market value at risk (VAR) = DEAR N

DEAR for Foreign Exchange :

DEAR = dollar value of position FX volatility
Dollar equivalent value of position = FX position spot exchange rate
DEAR for Equities
DEAR = dollar value of position stock market return volatility
market return volatility = 1.65 std devM.
DEAR portfolio =[DEARa2 + DEARb2 + DEARc2 + 2rab DEARa * DEARb + 2rac DEARa
DEARc + 2rbc DEARb DEARc]1/2

Liquidity Index :

N
P
I Wi i*
i 1
Pi

Hedging Interest Rate Risk with Futures Contracts :

F = dollar gain or loss on a futures position for changing interest rates
R
F DF F
1 R
Number of sold or bought contracts (NF) :
No basis risk N F

DA kDL A
DF PF

Adjusting for basis risk:

NF

Where:
b = [RF/(1+RF)] / [R/(1+R)

DA kDL A
DF PF b

Hedging Foreign Exchange Risk with Futures Contracts :

h = St /ft
Nf = (Long FX asset position )/(size of one FX contract).
= estimated value of h using past data.