Credit risk is one of the largest risks banks have. In this module learn about credit spreads, recovery rates and default probabilities.

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- 45 minutes
- 8 question multiple choice
- What credit spreads, recovery rates and default probabilities are
- How these three things are closely related
- How implied credit spreads can be calculated
- How implied default rates can be calculated
- What influences credit spreads and default rates
- The practical application to your credit exposures

1. Credit spreads, recovery rates and default probabilities

- What a credit spread is
- The market for credit risk
- Credit default swap prices
- Recovery rates, defined, historic data, loss given default
- Default probability, defined, historic data

2. The credit spread

- Using default probabilities and recovery rates to imply credit spreads
- Example using probability of survival and probability of default
- How recovery rates affect credit spreads
- How default probabilities affect credit spreads
- Why the implied credit spread and the market price of credit can differ

3. The default probability

- Using credit spreads and recovery rates to calculate default probability
- Example the expected loss for a portfolio
- How credit spreads affect the expected loss
- How recovery rates affect the expected loss
- What credit spreads imply about losses
- What this means for financial institutions

4. Summary

5. Test

25th March 2017

The following explains what credit spreads are and why they are important. How credit risk occurs in Treasury and what we need to do to manage this risk. The links between credit spreads, bond prices, default probabilities and recovery rates.

25th March 2017

Derivatives are traditionally valued by taking the expected future cash flows and then discounting them in accordance with interest rates to give today’s value (present value). Implicit is the assumption that the derivative contract will run to its contractual date and all the cash flows will be paid and received. However, in the real world this may not occur. The counterparty may default.

25th March 2017

The Treasury function has several roles. At the highest level these include hedging and trading. The risks that are incurred are • Market risk (Interest rate & foreign exchange risk) • Liquidity risk • Operational risk • Credit risk What sort of things create credit exposures?

15th October 2009

If you don't work as a dealer you probably see transactions or their results after they have been completed. Your role may be in operations, finance, risk, audit or compliance. You expect dealers to be profitable, after all isn't this what they are paid for? You definitely know that they can lose money too! So how do dealers make profits and what are the implications for the business? There are three ways a dealer can make money:

12th August 2014

Since I wrote my earlier quick guide to credit default swaps (CDS) there have been changes to this market. These occurred in 2009 and are referred to as Big Bang. A summary is below.