Unit 1 - Fundamentals of Trading Activities and Risk Metrics

Fundamentals of Trading Activities and Risk Metrics Details

Review of major asset classes and financial instruments – equities, bonds, FX, commodities
Identify principal drivers of each asset class – e.g. what drives interest rates and bond yields
Equity Risk – capital loss, bankruptcy, reorganisations, dividend suspension
Interest Rate Risk – risks associated with changes in short term/ long term rates, yield curve
Foreign Exchange Risk – risks of adverse currency movements in assets denominated in currencies other than the domestic or base currency
Commodity Risk – risks of price changes, shortages, limit down moves
Derivatives Risk – delta, counter-party credit risk, basis risk, nonlinear price behaviour
Trading Risk - gaps where not trading takes place, Flash Crashes, merits and demerits of stop losses
Execution Risk - difficult market conditions, failure to implement legs of arbitrage
Liquidity Risk - illiquid and volatile markets, margin calls, market capacity constraints
Calculating Value-at-Risk – modelling techniques, stress testing
Limitations of normal distribution as basis for probabilistic modelling
Hedging strategies with futures, options and swaps
Uses and limitations of key risk ratios – Sharpe, Treynor, Calmar

Trading Book Activities and Mark to Market Practice

Liquidity of different trading markets and financial instruments
Mark to market, mark to model – CVA integral to forward-looking fair value approach
Accounting basics of fair market valuation of portfolios
IFRS 13 and consideration of counter-party credit risk, exit pricing
Liquidity horizons as part of the FRTB methodology for market risk
Clarification of the three levels used in IFRS 13 for valuation purposes
Level Three and mark to model exposures
Quantifying the exposure and severity of “outliers” and tail risk
Understanding of the key concept of delta of a portfolio – hedging, options
Importance of non-parallel shifts in yield curves to fixed income instruments
Contrast financial instruments with linear/non-linear returns and hedging profiles

Value-at-Risk, Expected Shortfall and Market Risk Analytics

The rationale for a metric quantifying risk within a confidence level – development of VaR
Parametric Value-at-Risk – limitations associated with standard normal deviate values
Overview of “fat tails” - the leptokurtic nature of financial time series data
Reasons not to use the normal distribution as basis for probabilistic modelling
Expected Shortfall (ES) and empirical methods for determining VaR
Quantifying the exposure and severity of “outliers” and tail risk – Extreme Value Theory
Highlights of US Senate Subcommittee Report Explanation of the credit derivatives market
Symptoms of poor risk management and culture at world’s largest bank

Case Study

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