## CREDIT RISK MODELS

## Program

### Updated A.Y. 2017-2018

**Credit Risk Models
M.Sc. Finance and Banking
Prof. Stefano Herzel**

This course, addressed to advanced Master and PhD students, provides an introduction to modeling, measuring and pricing credit risk.

It is divided into two parts: sovereign debt and corporate debt.

It will show how to model corporate and sovereign credit risk by applying structural and intensity based models.

The theory requires a fair understanding of some tools from probability and stochastic processes.

I will provide

The course is elective, and will be offered during the second semester, if there are enough students interested, over six consecutive weeks, for a total of 36 hours of lectures.

Upon completion of the course students** **will** know and understand** the following topics:

1. Corporate debt

• Theory of the Firm (Modigliani-Miller)

• Structural models for Corporate Credit Risk (Merton and Black-Cox models)

• Evaluation of Subordinated Debt

• Estimating Asset Value and Asset Volatility from Observed Equity Prices

• Distance to Default, the KMV approach

• Endogenous Default Boundaries and Optimal Capital Structure (the Leland model)

2. Sovereign debt

Short rate models

Libor Market Model

Swap Market Model

• Introduction to Poisson Processes • Modeling the default intensity

• Sovereign Credit Risk

• Bond and CDS pricing

Students will **apply their knowledge** to real market data, using the platform Eikon-Datastream and implementing the models using Matlab.

**Prerequisities**:

Basic knowledge of:

probability and stochastic calculus (e.g. Brownian Motion and Ito’s Lemma)

theory of arbitrage asset pricing (e.g. the Black Scholes model).

risk-free interest rate model (e.g. the Vasicek model)

Some familiarity with one programming language (e.g. Matlab)

All prerequisites are covered in the “Asset Pricing” course.

**Textbook**: David Lando, Credit Risk Modeling Theory and Applications,

The final grade will be determined by class participation (25%) and a final written exam (75%)