2019 CFA curriculum level II volume 5 fixed income and derivatives

:Xiaohang Zeng http://e.pub/xptysxq9kn0e5hksl2ka.vbk/OEBPS/cover-print-1534829163.xhtml 2018/8/21 :Xiaohang Zeng FIXED INCOME AND DERIVATIVES CFAđ PROGRAM CURRICULUM 2019 ã Level II ã Volume http://e.pub/v5xd6kodrogfdyil4yk0.vbk/OEBPS/title-page-print-1534829250.xhtml 2018/8/21 :Xiaohang Zeng © 2018, 2017, 2016, 2015, 2014, 2013, 2012, 2011, 2010, 2009, 2008, 2007, 2006 by CFA Institute All rights reserved This copyright covers material written expressly for this volume by the editor/s as well as the compilation itself It does not cover the individual selections herein that first appeared elsewhere Permission to reprint these has been obtained by CFA Institute for this edition only Further reproductions by any means, electronic or mechanical, including photocopying and recording, or by any information storage or retrieval systems, must be arranged with the individual copyright holders noted CFA®, Chartered Financial Analyst®, AIMR-PPS®, and GIPS® are just a few of the trademarks owned by CFA Institute To view a list of CFA Institute trademarks and the Guide for Use of CFA Institute Marks, please visit our website at www.cfainstitute.org This publication is designed to provide accurate and authoritative information in regard to the subject matter covered It is sold with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service If legal advice or other expert assistance is required, the services of a competent professional should be sought All trademarks, service marks, registered trademarks, and registered service marks are the property of their respective owners and are used herein for identification purposes only ISBN 978-1-946442-13-0 (paper) ISBN 978-1-946442-37-6 (ebk) http://e.pub/721vh2315902kf33g4ci.vbk/OEBPS/copyright-page-print-1534813137.xht 2018/8/21 :Xiaohang Zeng TABLE OF CONTENTS Title Page Copyright Page Table of Contents How to Use the CFA Program Curriculum Curriculum Development Process Organization of the Curriculum Features of the Curriculum Required vs Optional Segments [OPTIONAL] Practice Problems/Solutions Glossary and Index LOS Self-Check Source Material Designing Your Personal Study Program Create a Schedule CFA Institute Practice Questions CFA Institute Mock Exams Preparatory Providers Feedback Fixed Income Study Sessions Topic Level Learning Outcome Study Session 12 Fixed Income (1) Reading Assignments Reading 34 The Term Structure and Interest Rate Dynamics Learning Outcomes Introduction Spot Rates and Forward Rates 2.1 The Forward Rate Model 2.2 Yield to Maturity in Relation to Spot Rates and Expected and Realized Returns on Bonds 2.3 Yield Curve Movement and the Forward Curve 2.4 Active Bond Portfolio Management The Swap Rate Curve 3.1 The Swap Rate Curve 3.2 Why Do Market Participants Use Swap Rates When Valuing Bonds? 3.3 How Do Market Participants Use the Swap Curve in Valuation? 3.4 The Swap Spread 3.5 Spreads as a Price Quotation Convention Traditional Theories of the Term Structure of Interest Rates 4.1 Local Expectations Theory 4.2 Liquidity Preference Theory 4.3 Segmented Markets Theory 4.4 Preferred Habitat Theory Modern Term Structure Models 5.1 Equilibrium Term Structure Models 5.2 Arbitrage-Free Models: The Ho–Lee Model Yield Curve Factor Models http://e.pub/7q5qxm1fdczvk9is9sil.vbk/OEBPS/nav-print-1534829352.xhtml 2018/8/21 :Xiaohang Zeng 6.1 A Bond’s Exposure to Yield Curve Movement 6.2 Factors Affecting the Shape of the Yield Curve 6.3 The Maturity Structure of Yield Curve Volatilities 6.4 Managing Yield Curve Risks Summary References Practice Problems Solutions Reading 35 The Arbitrage-Free Valuation Framework Learning Outcomes Introduction The Meaning of Arbitrage-Free Valuation 2.1 The Law of One Price 2.2 Arbitrage Opportunity 2.3 Implications of Arbitrage-Free Valuation for Fixed-Income Securities Interest Rate Trees and Arbitrage-Free Valuation 3.1 The Binomial Interest Rate Tree 3.2 What Is Volatility and How Is It Estimated? 3.3 Determining the Value of a Bond at a Node 3.4 Constructing the Binomial Interest Rate Tree 3.5 Valuing an Option-Free Bond with the Tree 3.6 Pathwise Valuation Monte Carlo Method Summary Practice Problems Solutions Study Session 13 Fixed Income (2) Reading Assignments Reading 36 Valuation and Analysis: Bonds with Embedded Options Learning Outcomes Introduction Overview of Embedded Options 2.1 Simple Embedded Options 2.2 Complex Embedded Options Valuation and Analysis of Callable and Putable Bonds 3.1 Relationships between the Values of a Callable or Putable Bond, Straight Bond, and Embedded Option 3.2 Valuation of Default-Free and Option-Free Bonds: A Refresher 3.3 Valuation of Default-Free Callable and Putable Bonds in the Absence of Interest Rate Volatility 3.4 Effect of Interest Rate Volatility on the Value of Callable and Putable Bonds 3.5 Valuation of Default-Free Callable and Putable Bonds in the Presence of Interest Rate Volatility 3.6 Valuation of Risky Callable and Putable Bonds Interest Rate Risk of Bonds with Embedded Options 4.1 Duration 4.2 Effective Convexity Valuation and Analysis of Capped and Floored Floating-Rate Bonds 5.1 Valuation of a Capped Floater 5.2 Valuation of a Floored Floater Valuation and Analysis of Convertible Bonds http://e.pub/7q5qxm1fdczvk9is9sil.vbk/OEBPS/nav-print-1534829352.xhtml 2018/8/21 :Xiaohang Zeng 6.1 Defining Features of a Convertible Bond 6.2 Analysis of a Convertible Bond 6.3 Valuation of a Convertible Bond 6.4 Comparison of the Risk–Return Characteristics of a Convertible Bond, the Straight Bond, and the Underlying Common Stock Bond Analytics Summary References Practice Problems Solutions Reading 37 Credit Analysis Models Learning Outcomes Introduction Modeling Credit Risk and the Credit Valuation Adjustment Credit Scores and Credit Ratings Structural and Reduced-Form Credit Models Valuing Risky Bonds in an Arbitrage-Free Framework Interpreting Changes in Credit Spreads The Term Structure of Credit Spreads Credit Analysis for Securitized Debt Summary References Practice Problems Solutions Reading 38 Credit Default Swaps Learning Outcomes Introduction Basic Definitions and Concepts 2.1 Types of CDS 2.2 Important Features of CDS Markets and Instruments 2.3 Credit and Succession Events 2.4 Settlement Protocols 2.5 CDS Index Products 2.6 Market Characteristics Basics of Valuation and Pricing 3.1 Basic Pricing Concepts 3.2 The Credit Curve 3.3 CDS Pricing Conventions 3.4 Valuation Changes in CDS during Their Lives 3.5 Monetizing Gains and Losses Applications of CDS 4.1 Managing Credit Exposures 4.2 Valuation Differences and Basis Trading Summary Practice Problems Solutions Derivatives Study Sessions Topic Level Learning Outcome Study Session 14 Derivatives Reading Assignments Reading 39 Pricing and Valuation of Forward Commitments http://e.pub/7q5qxm1fdczvk9is9sil.vbk/OEBPS/nav-print-1534829352.xhtml 2018/8/21 :Xiaohang Zeng Learning Outcomes Introduction Principles of Arbitrage-Free Pricing and Valuation of Forward Commitments Pricing and Valuing Forward and Futures Contracts 3.1 Our Notation 3.2 No-Arbitrage Forward Contracts 3.3 Equity Forward and Futures Contracts 3.4 Interest Rate Forward and Futures Contracts 3.5 Fixed-Income Forward and Futures Contracts 3.6 Currency Forward and Futures Contracts 3.7 Comparing Forward and Futures Contracts Pricing and Valuing Swap Contracts 4.1 Interest Rate Swap Contracts 4.2 Currency Swap Contracts 4.3 Equity Swap Contracts Summary Practice Problems Solutions Reading 40 Valuation of Contingent Claims Learning Outcomes Introduction Principles of a No-Arbitrage Approach to Valuation Binomial Option Valuation Model 3.1 One-Period Binomial Model 3.2 Two-Period Binomial Model 3.3 Interest Rate Options 3.4 Multiperiod Model Black–Scholes–Merton Option Valuation Model 4.1 Introductory Material 4.2 Assumptions of the BSM Model 4.3 BSM Model Black Option Valuation Model 5.1 European Options on Futures 5.2 Interest Rate Options 5.3 Swaptions Option Greeks and Implied Volatility 6.1 Delta 6.2 Gamma 6.3 Theta 6.4 Vega 6.5 Rho 6.6 Implied Volatility Summary Practice Problems Solutions Reading 41 Derivatives Strategies Learning Outcomes Introduction Changing Risk Exposures with Swaps, Futures, and Forwards 2.1 Interest Rate Swap/Futures Examples 2.2 Currency Swap/Futures Examples 2.3 Equity Swap/Futures Examples http://e.pub/7q5qxm1fdczvk9is9sil.vbk/OEBPS/nav-print-1534829352.xhtml 2018/8/21 :Xiaohang Zeng Glossary A B C D E F G H I J K L M N O P Q R S T U V W Y Z Position Equivalencies 3.1 Synthetic Long Asset 3.2 Synthetic Short Asset 3.3 Synthetic Assets with Futures/Forwards 3.4 Synthetic Put 3.5 Synthetic Call 3.6 Foreign Currency Options Covered Calls and Protective Puts 4.1 Investment Objectives of Covered Calls 4.2 Investment Objective of Protective Puts 4.3 Equivalence to Long Asset/Short Forward Position 4.4 Writing Cash-Secured Puts 4.5 The Risk of Covered Calls and Protective Puts 4.6 Collars Spreads and Combinations 5.1 Bull Spreads and Bear Spreads 5.2 Calendar Spread 5.3 Straddle 5.4 Consequences of Exercise Investment Objectives and Strategy Selection 6.1 The Necessity of Setting an Objective 6.2 Spectrum of Market Risk 6.3 Analytics of the Breakeven Price 6.4 Applications Summary Practice Problems Solutions http://e.pub/7q5qxm1fdczvk9is9sil.vbk/OEBPS/nav-print-1534829352.xhtml 2018/8/21 :Xiaohang Zeng How to Use the CFA Program Curriculum © 2018 CFA Institute All rights reserved Show/Hide Paragraph Numbers Congratulations on reaching Level II of the Chartered Financial Analyst® (CFA®) Program This exciting and rewarding program of study reflects your desire to become a serious investment professional You are embarking on a program noted for its high ethical standards and the breadth of knowledge, skills, and abilities (competencies) it develops Your commitment to the CFA Program should be educationally and professionally rewarding The credential you seek is respected around the world as a mark of accomplishment and dedication Each level of the program represents a distinct achievement in professional development Successful completion of the program is rewarded with membership in a prestigious global community of investment professionals CFA charterholders are dedicated to life-long learning and maintaining currency with the ever-changing dynamics of a challenging profession The CFA Program represents the first step toward a career-long commitment to professional education The CFA examination measures your mastery of the core knowledge and skills required to succeed as an investment professional These core knowledge and skills are the basis for the Candidate Body of Knowledge (CBOK™) The CBOK consists of four components: A broad outline that lists the major topic areas covered in the CFA Program (www.cfainstitute.org/cbok); Topic area weights that indicate the relative exam weightings of the top-level topic areas (www.cfainstitute.org/level_II); Learning outcome statements (LOS) that advise candidates about the specific knowledge, skills, and abilities they should acquire from readings covering a topic area (LOS are provided in candidate study sessions and at the beginning of each reading); and The CFA Program curriculum that candidates receive upon exam registration Therefore, the key to your success on the CFA examinations is studying and understanding the CBOK The following sections provide background on the CBOK, the organization of the curriculum, and tips for developing an effective study program http://e.pub/721vh2315902kf33g4ci.vbk/OEBPS/CFAINFO-200-print-1534813189.xht 2018/8/21 :Xiaohang Zeng CURRICULUM DEVELOPMENT PROCESS The CFA Program is grounded in the practice of the investment profession Beginning with the Global Body of Investment Knowledge (GBIK), CFA Institute performs a continuous practice analysis with investment professionals around the world to determine the competencies that are relevant to the profession Regional expert panels and targeted surveys are conducted annually to verify and reinforce the continuous feedback from the GBIK collaborative website The practice analysis process ultimately defines the CBOK The CBOK reflects the competencies that are generally accepted and applied by investment professionals These competencies are used in practice in a generalist context and are expected to be demonstrated by a recently qualified CFA charterholder The Education Advisory Committee, consisting of practicing charterholders, in conjunction with CFA Institute staff, designs the CFA Program curriculum in order to deliver the CBOK to candidates The examinations, also written by charterholders, are designed to allow you to demonstrate your mastery of the CBOK as set forth in the CFA Program curriculum As you structure your personal study program, you should emphasize mastery of the CBOK and the practical application of that knowledge For more information on the practice analysis, CBOK, and development of the CFA Program curriculum, please visit www.cfainstitute.org ORGANIZATION OF THE CURRICULUM The Level II CFA Program curriculum is organized into 10 topic areas Each topic area begins with a brief statement of the material and the depth of knowledge expected Each topic area is then divided into one or more study sessions These study sessions—17 sessions in the Level II curriculum—should form the basic structure of your reading and preparation Each study session includes a statement of its structure and objective and is further divided into specific reading assignments An outline illustrating the organization of these 17 study sessions can be found at the front of each volume of the curriculum These readings are drawn from content commissioned by CFA Institute, textbook chapters, professional journal articles, research analyst reports, and cases Each reading includes LOS and the core material to be studied, often a combination of text, exhibits, and in-text examples and questions A reading typically ends with practice problems followed by solutions to these problems to help you understand and master the topic areas The LOS indicate what you should be able to accomplish after studying the material The LOS, core material, and the practice problems are dependent on each other, with the core material and practice problems providing context for understanding the scope of the LOS and enabling you to apply a principle or concept in a variety of scenarios http://e.pub/721vh2315902kf33g4ci.vbk/OEBPS/CFAINFO-200-print-1534813189.xht 2018/8/21 ... Zeng FIXED INCOME AND DERIVATIVES CFA? ? PROGRAM CURRICULUM 2019 • Level II • Volume http://e.pub/v5xd6kodrogfdyil4yk0.vbk/OEBPS/title-page-print- 153 4829 250 .xhtml 2018/8/21 :Xiaohang... two-year and threeyear maturities are 0 .52 5% and 0 .58 8%, respectively By simple interpolation between these two swap rates, the swap rate for 2.97 years is 0 .58 6% [= 0 .52 5% + ( 350 /360)(0 .58 8% – 0 .52 5%)]... 7. 253 % Years 4 .54 3% 6 .53 9% 7.3 65% Years 5. 791% 7.0 45% 7 .56 3% 10 Years 6.694% 7.4 05% 7.670% 30 Years 7.474% 7.716% 7.816% 7. 055 % 7.200% 7.460% 7.641% 7.796% 7.843% 7. 858 % 7.873% 7.876% 7.8 75%