Risk transfer is one of the key functions of financial markets. Financial products are consequently designed such that they optimally meet the needs of both seller and buyer. This course aims to introduce the building blocks that can be combined to build attractive financial instruments or financing vehicles. It goes without saying that their price is one of the important properties to be considered. The course therefore also discusses the determinants that impact asset prices and describes the quantitative techniques available to compute these prices. In addition, these techniques can also be used to estimate relevant risk parameters.
* Theoretical underpinnings, including arbitrage, complete markets and Arrow-Debreu prices.
* Techniques/methods, including simulation, binomial trees, basics of continuous time finance.
* Modelling of asset prices, with a particular focus towards the application in the context of equity-linked, interest rate-linked and credit-linked structured products.
* Structured products, pointing out their positioning in the landscape of savings and investments, their mechanics (hedging and valuation) and their classification. In this module we also hint on the changing regulatory environment. A deep understanding of the boundary conditions, including the regulatory setting, is crucially important in financial engineering.
* Interest rate modelling, with a particular focus on the Libor Market Model. This model is most widely used in practice, has many methodological similarities (and obvious differences) with the modelling of multi-variate asset series, and allows for a wide range of practical examples.
* Credit risk modelling, covering both defaultable bonds, credit default swaps and the valuation of collateralized debt obligations. The latter allows to dive deeper into loss distributions, the modelling of default correlation and the valuation of for example First-to-Default structured products.
*Behavioural finance, starting with an overview of recent theoretical developments and building towards the relevance of behavioral finance in the context of financial engineering.