The Definitive Guide to CDOs

Market, Application, Valuation and Hedging

Edited by Gunter Meissner

Risk&oo&s

Contents
List of Figures List of Tables About the Editor About the Authors Introduction Gunter Meissner
SECTION 1: THE CDO MARKET A N D APPLICATION

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Introduction 1 The Evolution of CDOs - From the Bistro to CDO Brenda Boultwood; Gunter Meissner JP Morgan; University of Hawaii, NYU and Derivatives Software The Application of CDOs Gunter Meissner University of Hawaii, NYU and Derivatives Software
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SECTION 2: BASIC PROPERTIES OF CDO VALUATION

Introduction 3 An Overview on Copula Function Methods in Credit Portfolio Modelling David Xianglin Li China International Capital Corporation Limited The Underlying Dynamics of Credit Correlations Arthur Berd; Robert Engle; Artem Voronov Capital Fund Management; Stern School of Business, New York University; Millgate Capital Dynamic Conditioning and Credit Correlation Baskets Claudio Albanese; Alicia Vidler Level 3 Finance; Merrill Lynch Approaches to Generate the Loss Distribution Peter Grundke; Thomas Moosbrucker University of Osnabriick; Deloitte & Touche GmbH Modelling Non-Normal CDO Returns with the Omega Function Ranjan Bhaduri; Gunter Meissner AlphaMetrix, World Trade University; University of Hawaii, NYU and Derivatives Software

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SECTION 3: CDO VALUATION APPROACHES Introduction 8 201

The Market Standard Model for Valuing CDOs, the One-Factor Gaussian Copula Model - Benefits and Limitations 207 Gunter Meissner University of Hawaii, NYU and Derivatives Software Practical Pricing of Synthetic CDOs Jon Gregory; Jean-Paul Laurent SS Consulting; Universite de Lyon, Universite Lyon 1, ISFA Actuarial School, and BNP Paribas 223

10 Factor Models for CDO Pricing Leif Andersen, Victor L. Piterbarg Bane of America Securities 11 Levy Processes for the Valuation of CDO Tranches Thomas Moosbrucker Deloitte & Touche GmbH 12 Markov Models for CDOs Erik Schlogl University of Technology, Sydney 13 CDOs : Time for an Autopsy? Michiko Whetten UBS Securities Japan 14 Constant Proportion Debt Obligations: An Introduction Martin Hellmich; Stefan Kassberger DekaBank; Ulm University 15 A Comparative Analysis of CDO Pricing Models Xavier Bitrtschell; Jon Gregory; Jean-Paul Laurent BNP Paribas; SS Consulting; Universite de Lyon, Universite Lyon 1, ISFA Actuarial School and BNP Paribas 16 CDO Valuation: Fact and Fiction Robert A. Jarrow; Li Li, Mark Mesler, Donald R. van Deventer Johnson Graduate School of Management, Cornell University and Kamakura Corporation; Kamakura Corporation SECTION 4: HEDGING OF CDOs Introduction 17 Hedging Issues for CDOs Areski Cousin; Jean-Paul Laurent Universite de Lyon, University Lyon 1, ISFA Actuarial School; University de Lyon, University Lyon 1, ISFA Actuarial School and BNP Paribas
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18 Hedging CDOs in the One-Factor Gaussian Copula Framework 481 Gunter Meissner; Richard Hector, Thomas Rasmussen University of Hawaii, NYU and Derivatives Software; Hawaii Pacific University
SECTION 5: RATING APPROACHES, REGULATORY ISSUES AND MODEL VALIDATION

Introduction 19 A Comparative Analysis of Fitch's, Moody's and Standard & Poor's CDO Rating Approaches Gunter Meissner; Tim Gamier, Tobias Laute University of Hawaii, NYU and Derivatives Software; Hawaii Pacific University 20 The Treatment of CDOs in Basel II Martin Brodka, Linda Urban Lehman Brothers 21 Counterparty Credit Risk of CDO Tranches under Basel II Mall Whelan Scotiabank

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22 Model Validation and CDOs - An Overview of Requirements and Methods 577

George Neal

American Savings Bank

SECTION 6: CDOS - RISKS, CHALLENGES A N D MARKET OUTLOOK Introduction 593

23 CDOs - Risks, Challenges and Market Outlook David M. Rowe, Cyril Deretz SunGard Index

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