FE625 Emerging Markets: Risks and Models


Course Catalog Description

Introduction

This course covers the basics of Emerging Markets (EM) instruments, models, risks, hedging and trading practices. The course is based on two pillars: first the basic concepts on the models and market are introduced; second the implementation and use of those concepts in real life examples and simulation of a trading environment

Campus Fall Spring Summer
On Campus X
Web Campus

Instructors

Professor Email Office
Juan M. Eroles
jeroles@stevens.edu

More Information

Course Description

Throughout the course there will be an emphasis on market conventions and practitioner best practices. One of the main objectives involves a have hands on approach into managing the valuation, risks, proper hedges and dynamics of a real book. To this end the student will be given as a starting point a spreadsheet that simulates a system for managing a book of FX contracts in the real world. The name of this spreadsheet system is: MiniSystem. The student will then be asked to develop the pricing models in the system to include different types of contracts, to value them, to calculate the relevant risks, to explain the changes in the valuations and to calculate the proper hedges. This approach will initially be done on individual contracts and then in aggregate for a whole book of contracts.


Course Outcomes

The main four objectives of the course are:

  1. 1- Academic: For the students to acquire theoretical knowledge in EM models, conventions and main differences with developed markets
  2. 2- Practice: For the students to be able to price, execute and hedge options and a book in FX market including a smile effect as is done in practice
  3. 3- Insertion: Provide the students with tools for their insertion into the labor market with some of the latest information on hiring process, interview tips and market trends
  4. 4- Exposure: Expose the students to market participants and give them an opportunity to interact with them

Course Resources

Textbook

Recommended: 1- Investing in Emerging Markets Fixed Income Markets, Frank J. Fabozzi, 2002, ; 2- Counterparty Credit Risk and Credit Value Adjustment, Jon Gregory, 2012, Wiley (2nd edition) ; 3- Dynamic Models and their Applications in Emerging Markets, Sima Montamen-Samdian,, 2002, ; 4- Published papers and working notes

Additional References

Published papers and working notes.


Grading

Grading Policies

  • Homework – 40%
  • Class Interaction – 20%
  • Final Projects (2 to 3) – 40%

Lecture Outline

Topic Reading
Week 1 General Introduction to Emerging Markets. Definitions, volumes, geography, types and brief history. Cycles of growth and crisis. Correlation between countries and regions.
Week 2 Fixed income instruments overview I : Interest rates swaps, FX forwards. Introduction, definitions, trading properties (liquidity, conventions, etc), risks and pricing.
Week 3 Fixed income instruments overview II : credit default swaps, swaptions, FX options. Introduction, definitions, trading properties (liquidity, conventions, etc), risks and pricing.
Week 4 Future expected mark to market. Future expected credit exposure.
Week 5 Introduction to capital constraints as a form of economic policy. Convertibility, transferability and default risks. Financial instruments designed for this risk, their modeling and valuation
Week 6 Cross Currency Swaps: introduction, definition, use as funding instruments, cross currency basis swaps and risks
Week 7 Inflation instruments in Emerging Markets. Inflation currencies and inflation indexes. Inflation Swaps: modeling, pricing an valuation. Deliverable currencies vs non-deliverable currencies.
Week 8 Credit Risk for Emerging Markets. Country ratings and local ratings. Country risk. Bonds as as hybrid instruments (IR risk + Credit risk).
Week 9 Hybrid instruments: Quanto CDS, extinguishable swaps and CVA. Call/Put parity between CVA and extinguishable swaps.
Week 10 Midterm Exam
Week 11 Class I: 4 Factor Model with FX jumps. Model motivation and derivation. Presenting the analytical solution
Week 12 Class II: 4 Factor Model with FX jumps. Getting the Analytical solution. Analyzing the model through its analytical solutions. Limits and behaviors
Week 13 Funding and collateralization of derivatives I: Introduction to CSA and ISDA terms. OIS discounting.
Week 14 Funding and collateralization of derivatives II: Determining the value of the CSA Thresholds. Netting and Set-off. Cheapest to Deliver (CTD).
Week 15 Final Exam