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Trigger Structures

Trigger structures are an important development in interest rate risk management in recent years. They are attractive to liability managers looking for alternatives to traditional cap structures and to investors looking to gain extra return through taking on additional risk. Although these structures are simple to describe, they are complex to price and hedge.

 

This course describes the basic trigger structure, how it is priced using the binomial tree and the most common uses of these structures.

  • OBJECTIVES

    On completion of this course, you will be able to:

    Recognize the characteristics of a trigger swap structure and determine its uses

    Price a trigger swap using a simplified Black-Derman -Toy (BTD) methodology

    Outline the pricing sensitivities of trigger structures and the shortcomings of the BDT methodology used to price them

  • COURSE OUTLINE

    Topic 1: Overview of Trigger Structures

    What is a Trigger Structure?

    ‘Kick In’

    Floating Rate Note ( FRN)

    Alternative Structure

    Neutralizing he Risk of a Trigger-Linked Security

    Users of Trigger Structures

    o Liability Managers

    • Floating to Fixed Structures

    o Investors

    • Strategies of a Liability Manager

    Topic 2: Pricing Trigger Structures

    Pricing a Trigger Structure

    An Interest Rate Tree

    o Building the Interest Rate Tree

    • Sample BDT Tree

    o Assigning Probabilities

    o Valuation of the Switch

    Pricing- Steps

    Pricing Example

    Generating a Binomial Tree

    Valuing Fixed Coupons

    Valuing Floating Coupons

    Valuing the Forward Swap

    Choosing Exercise Points

    Probability of Trigger

    o Trigger Probability – Category One

    o Trigger Probability – Category Two

    Value of a Trigger

    Incorporating the Trigger Value

    Valuing a Subsidized Swap

    Topic 3: Pricing Issues

    General Rate Changes

    Individual Swap Rates

    Changes in Volatility

    Shortcomings of the Simplified BDT Methodology

    Correlations & Complex Models

  • PREREQUISITE KNOWLEDGE

  • ESTIMATED COMPLETED TIME

    90 Minutes

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