MSF274(11D)

MSF274(11D) - Credit, FX, Liquidity and Taxation (#4)...

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Credit, FX, Liquidity and Taxation (#4)
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2 Credit Risk Credit Risk - The Consequence of Downgrade, Default, Wider Credit Spreads or Refusal of Country or Company to Honor Obligations on a Timely Basis. Proxy : Credit Ratings, which represent an Assessment of Issuer’s Financial Performance and Management and Issue’s Covenants, Provide Relative Measure of Risk. Bond pricing and CDS spreads provide a market perspective of credit risk. Risk - Lower Credit Ratings or Higher Spreads Represent More Risk.
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3 Performance Measures Yield-to-maturity is best yield if no credit problems occur Credit spread is YTM minus yield of comparable term Treasury security Expected yield is YTM minus expected loss Expected loss equals probability of default times loss given default
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4 Bond Yield Volatility: Risk-free Rate v. Risk Premium 1.1 2.2 1.4 1.1 1 1 0.9 0 0.5 1 1.5 2 2.5 AAA AA A BBB BB B T-bond Sigma
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5 Moody’s (1, 2, 3) Moody’s (1, 2, 3) Aaa: Aaa: Best Quality Best Quality Aa: Aa: High Quality High Quality A: A: Upper Medium Upper Medium Baa: Baa: Medium Grade Medium Grade Ba: Ba: Speculative Speculative Elements Elements B: B: Lack Desirable Lack Desirable Investment Quality Investment Quality C: C: Extremely Poor Extremely Poor Prospects; May Prospects; May be in Default be in Default Bond Rating Agencies S & P (+ , -) S & P (+ , -) AAA: AAA: Extremely Strong Extremely Strong Capacity Capacity AA: AA: Very Strong Very Strong Capacity Capacity A: A: Strong Capacity Strong Capacity BBB: BBB: Adequate Capacity Adequate Capacity BB: BB: Uncertainties Could Uncertainties Could Lead to Default Lead to Default B: B: Vulnerable Vulnerable D: D: In Default In Default
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6 Moody’s Investor Japanese Bond (JBR) Standard & Poors (S&P) Nippon Investor (NIS) Canadian Bond (CBR) IBCA Dominion Bond (DBR) International Rating Agencies Senior Debt Rating v. Moody’s Difference in Notches
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7 Split Ratings Common Some Agencies More Liberal Ratings Lag Market Pricing Country Risk Rating Sets Ceiling for Global Issues Rating Agencies and Credit Analysis
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8 Country Risk Political Factors Stability of Government Process of Change Civil Unrest Economic Factors Inflation GDP Growth Period Since Default Stability of Banking Sector Transfer Factors Reserves Current Account
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9 Illustrative Country Risk Ratings Foreign Currency Government Bonds Aaa: USA (AA+) Aa: China A: Estonia Baa: Thailand Ba: Egypt B: Argentina Caa: Cuba Ca:
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MSF274(11D) - Credit, FX, Liquidity and Taxation (#4)...

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