Capital Markets

Lectures by Prof. Ian Giddy
for
Dresdner Kleinwort Wasserstein


Prof. Ian Giddy
Tel +1.917.930.0291
E-mail: ian.giddy@nyu.edu
Web: www.giddy.org

Goals
These six sessions offer an overview of instruments and techniques of the capital market from the perspective of investment banks and their clients.

Instructor
Prof. Ian Giddy is a graduate of the University of Michigan (MBA 1972, PhD 1974) and the University of the Witwatersrand (BSc 1970). He has taught finance at NYU, Columbia, Wharton, Chicago and in over 30 countries abroad for the past twenty-five years. He was Director of International Fixed Income Research at Drexel Burnham Lambert from 1986 to 1989. He is the author or co-author of numerous articles and books, including The Handbook of International Finance, The International Money Market, Cases in International Finance, Global Financial Markets, Asset Securitization in Asia and The Hudson River Watertrail Guide.

Pedagogy
The course employs cases and problems as well as classroom lectures and discussions, and "live case studies" to offer a hands-on learning experience. We will make use of international as well as domestic examples. Each student will be expected to prepare thoroughly and to participate actively in class discussion.

Textbook
Bodie Kane and Marcus, Essentials of Investments.
Additional readings will be made available.

<>Additional Resources
The Wall Street Journal and the London Financial Times provide the most comprehensive daily coverage of financial and economic news. The most insightful economic commentary may be found in the weekly, The Economist.

Try the following Web sites:

Course Outline

Dresdner Kleinwort Wasserstein Training Program

Prof. Ian Giddy

Session 1. Bonds


  1. Debt Fundamentals
    • Instruments of the market
    • Risk and return
    • Returns and yields
    • The yield curve and forward interest rates
  2. Government Bonds
    • Bond pricing methods
    • Bond interest rates: discount rates, coupon and yields
    • The yield curve
    • Duration and convexity
    • Strips and synthetic treasuries
    • How repos work
    • Government bonds with options
  3. Municipal Bonds
    • Tax features
    • Effective after-tax yields
    • Risk aspects and ratings
    • Bond insurance
    • Revenue bonds
  4. Corporate Bonds
    • Credit risk and ratings
    • Credit spreads
    • Credit spread curves and trends
    • High-yield bonds
    • Callable bonds and other option features
    • Private placements
    • The international bond market
  5. Asset-Backed Securities
    • Mortgage-backed securities
    • Other asset-backed securities

 

Session 2. Convertible Bonds

  1. Introduction to Convertible Bonds and Other Hybrid Instruments
    • Convertibles compared to other instruments.
    • Issuer and Investor Motivations in the CB market
    • Features of Convertible Bonds
    • Case study: dissecting a convertible bond
  2. The Convertible Bond Investor and Speculator
    • Investment managers
    • Risk averse equity managers
    • Income oriented equity managers
    • Convertible specialists
    • Bond managers seeking equity "kickers"
    • Hedge funds
  3. The Issuer: Why do Companies Issue Convertibles?
    • Types of issue
      1. Conventional convertible bonds
      2. Mandatory convertibles
      3. Exchangeable bonds
    • Convertibles as 'cheap funding'
    • The effective cost of convertibles
    • Convertibles as gap funding for growth companies
    • Convertibles as mezzanine funding in LBOs
  4. Relative Value
    • What are the measures of value for convertibles?
    • Breaking up a convertible into its component parts
    • Valuation of a convertible
    • Conversion value
    • Conversion premium
    • YTM - yield to maturity
    • Option Adjusted Spread Analysis
    • Comparing convertible bonds as investments

 

Session 3. Credit Derivatives

  1. What Are Credit Derivatives? Some Examples
  2. Why Credit Derivatives?
    • Banks' and investors' use in management of bond and loan portfolios
    • Use by  corporations
    • Traders and speculators - taking a view on credit spreads
    • Arbitrage
  3. Building Blocks
    • Types of credit derivatives and how they work
    • Credit default swaps
    • Total return swaps
    • Credit options
    • Obligors, reference assets and basis risk
    • The debt structure of a typical obligor, what constitutes a deliverable asset and which would be the CTD
    • Credit events across different markets
  4. The ISDA Framework
    • International Swaps and Derivatives Association
    • ISDA Master Agreement
    • ISDA Credit Derivatives Definitions
    • The Restructuring Supplement
  5. Pricing Credit Default Swaps
    • Default pricing built into corporate bond prices
    • Expected default frequencies
    • Predicted by KMV type models
    • Cumulative default probabilities
    • What are recovery rates in default?
    • Implications for CDS pricing models
    • Pricing and quotations
  6. Applications of Credit Derivatives
    • Regulatory capital reduction
    • Economic capital management
    • Hands-on application of capital calculations for banks
    • Portfolio diversification
    • Relationship management
    • Asset investments with credit risk added
    • Asset investments with credit risk stripped out
    • Corporations: management of counterparty risk

 

Session 4. Interest Rate Derivatives

  1. Interest Rate Derivatives
    • What are they?
    • Examples and applications
  2. Basics of Interest Rate Derivatives: Framework for Pricing
    • Tools for analyzing the yield curve
    • Coupon bonds
    • Zeroes: a method for valuation and sensitivity analysis
    • Spot rates
    • Forward interest rates
    • Hands-on application
  3. Interest Rate Derivatives: Mechanics and Linkages
    • Cash markets
    • Forward rate agreements (FRAs)
    • Futures
    • Swaps
    • Caps, floors and collars
    • Case study
  4. Focus: Interest Rate Swaps
    • Structures of interest rate and currency swaps
    • Pricing and quotations
    • Credit aspects
    • Applications
    • Hands-on numerical application
  5. Focus: Interest Rate Futures Contracts
    • Definition and mechanics
    • Relation to forward contracts
    • Interpreting futures quotations
    • Bond futures vs money market futures
    • IRD linkages to other futures: currency, index, commodities, etc.
    • Applications

 

Session 5. Securitization

  1. Introduction to Securitization
    • What is securitization?
    • How big is the market?
    • What conditions are necessary pre-requisites for securitization?
    • Outline of various recent transactions
    • Motivations for securitizations: banks vs. corporations
  2. Securitization Types
    • Consumer finance securitization
    • Mortgage securitization
    • Commercial assets / receivables
    • Banking asset securitization
    • Securitization of market instruments / Portfolios
    • Collateralized bond obligations
  3. The Securitization Process
    • Background: Assets suitable for securitization
    • Transfer of Assets
    • Credit enhancement
    • Servicing the debt
    • The process of US mortgage securitization
  4. The Roles of the Various Parties Involved
    • Seller
    • Investment bank
    • Special Purpose Vehicle
    • Servicer
    • Trustees
    • Credit rating agencies
    • Regulators
  5. Legal, Tax, and Regulatory Framework
    • True sale of assets
    • The special purpose vehicle
    • Taxation of ABS
    • Regulatory capital requirements and Basel II
  6. The US Mortgage Backed Securities Market
    • Stages of home mortgage securitization
    • Prepayment options and prepayment risk
    • MBS duration and convexity
    • Pricing and hedging the prepayment option
  7. Credit Enhancement Techniques
    • A rating-driven market
    • External credit guarantees
    • Senior-subordination structures
  8. Collateralized Debt Obligations
    • Structures and mechanics
    • Operation of SPV collateral
    • Transaction examples & credit rating agencies
    • Synthetic CDOs
    • Using default swaps in securitization
    • Regulatory capital and the 'super senior' class

 

Session 6. Corporate Valuation

  1. Why Value Companies?
    • Investment Analysis
    • Mergers and Acquisitions
    • Valuation as a Tool to Discover Restructuring Opportunities and Deal Ideas
  2. Valuation Techniques and Their Applications
    • Overview of Corporate Valuation Techniques
    • Comparables, Cash-flow and Option Models
    • Case study: Monster Garages
  3. Valuation Methods: Balance Sheet Models and Comparables
    • Asset-Based Models
    • Equity Valuation from the Balance Sheet
    • Book Value, Replacement Value and Liquidation Value
    • Comparables Applied to a Private Company: Car toys, Inc.
    • Acquisition Comparables
    • Case study: Active Generation Inc., Part 1 & 2
  4. Valuation Methods: Discounted Cash Flow Analysis
    • Basic Approach
    • Calculating a Discount Rate
    • Estimating Future Cash Flows
    • Choosing a Growth Pattern
    • Case study: Active Generation Inc., Part 3
  5. Valuation in an Acquisition Context
    • Values of Stand-alone Participants in a Merger
    • Value of Operating Synergies
    • Value of Financial Restructuring
    • Impact of Negative Synergies
    • Merged Company Value
    • Case study: Active Generation Inc, Part 4
  6. Conclusion
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