Practical Methods of Financial Engineering and Risk Management

Risk control, capital allocation, and realistic derivative pricing and hedging are critical concerns for major financial institutions and individual traders alike. Events from the collapse of Lehman Brothers to the Greek sovereign debt crisis demonstrate the urgent and abiding need for statistical tools adequate to measure and anticipate the amplitude of potential swings in the financial markets—from ordinary stock price and interest rate moves, to defaults, to those increasingly frequent “rare events” fashionably called black swan events. Yet many on Wall Street continue to rely on standard models based on artificially simplified assumptions that can lead to systematic (and sometimes catastrophic) underestimation of real risks.

In Practical Methods of Financial Engineering and Risk Management, Dr. Rupak Chatterjee— former director of the multi-asset quantitative research group at Citi—introduces finance professionals and advanced students to the latest concepts, tools, valuation techniques, and analytic measures being deployed by the more discerning and responsive Wall Street practitioners, on all operational scales from day trading to institutional strategy, to model and analyze more faithfully the real behavior and risk exposure of financial markets in the cold light of the post-2008 realities. Until one masters this modern skill set, one cannot allocate risk capital properly, price and hedge derivative securities realistically, or risk-manage positions from the multiple perspectives of market risk, credit risk, counterparty risk, and systemic risk.

The book assumes a working knowledge of calculus, statistics, and Excel, but it teaches techniques from statistical analysis, probability, and stochastic processes sufficient to enable the reader to calibrate probability distributions and create the simulations that are used on Wall Street to valuate various financial instruments correctly, model the risk dimensions of trading strategies, and perform the numerically intensive analysis of risk measures required by various regulatory agencies.

What you’ll learn

Practical Methods lays out the core financial engineering and risk management concepts and techniques that real-world practitioners use on a daily basis, including:

• Bloomberg analysis of financial instruments
• Statistical analysis of financial data
• Simulation of stochastic processes
• Statistical modeling of trading strategies
• Optimal hedging Monte Carlo (OHMC) methods
• Credit derivatives valuation
• Counterparty credit risk (CCR) and credit valuation adjustment (CVA)
• Basel II and III risk measures
• Power laws and extreme value theory (EVT)
• Hedge fund replication

Who this book is for

Practical Methods of Financial Engineering and Risk Management is for Wall Street professionals and advanced students training to be risk managers, quantitative analysts, portfolio managers, and traders.

Table of Contents

Chapter 1: Financial Instruments
Chapter 2: Building a Yield Curve
Chapter 3: Statistical Analysis of Financial Data
Chapter 4: Stochastic Processes
Chapter 5: Optimal Hedging Monte Carlo Methods
Chapter 6: Introduction to Credit Derivatives
Chapter 7: Risk Types, CVA, Basel III, and OIS Discounting
Chapter 8: Power Laws and Extreme Value Theory
Chapter 9: Hedge Fund Replication