|The market value of fixed income products is large and rising, and their complexity is ever increasing. For instance, as of the end of 2011, the U.S. government debt stood at around $9.9 trillion, that is, 100% increase over its value in 2007. Moreover, in the aftermath of the 2007 - 2009 financial crisis, we can expect a further increase in U.S. government debt, projected to possibly reach 85% of GDP by 2020, a big increase compared the 40% in 2008 and 62% in 2010. Other interest rate markets are also large: As of December 2011, the mortgage backed securities market stood at $8.4 trillion, the interest rate swap market at $402 trillion (notional), and the OTC forward and options market at over 100 trillion (notional). In addition, the recent aggressive expansionary monetary policy of the Federal Reserve may lead to higher future inflation. In such an environment, it is of paramount important to obtain a deep understanding of the sources of risk of fixed income securities, and the current methodologies used by market participants to price and hedge fixed income products and complex derivative instruments.
This course covers advanced models and techniques required to analyze fixed income instruments, and their derivatives, in modern financial markets. By the end of the course, students will learn (i) the basic concepts of fixed income instruments, such as yield, duration, convexity; (ii) the modern empirical methodologies to describe Treasury and corporate bond data, such as "curve fitting," factor analysis, and default probabilities; (iii) the most recent modeling techniques for fixed income derivative products used in the Street, such as the models of Vasicek, Cox Ingersoll and Ross, Ho and Lee, Hull and White, Black-Derman-Toy, and Heath-Jarrow-Morton; and, importantly, (iv) how to use these models in practice to value both traditional derivative instruments, such as Swaps, Bond Options, Caps and Floors, as well as the more recent products, such as Inverse Floaters, Range Notes, Mortgage Backed Securities and Credit Derivatives.
The key feature of Fixed Income Asset Pricing is that it strongly emphasizes the applications of these models to value real world fixed income products, and their derivatives, by focusing both on the practical difficulties of applying models to the data, as well as on the necessity to use computers to compute prices. The course, which is mathematical in nature and relies on continuous time methodologies (developed within the course), includes many real world Case Studies and Data Analysis to allow students to apply these models to a wide range of derivatives and new products, as well as to understand their risk and return characteristics. More information is available on the course homepage http://faculty.chicagobooth.edu/pietro.veronesi/teaching/BUS437.htm.