Here are selected forum threads from this week that I thought an FRM candidate may find helpful. Below the forum links are links to external material you might find interesting.

In the forum

• Negative convexity in a callable bond
• Can you price a two-step American-style option?
• Is there a capital charge when the assets are securitized?
• You don’t need to memorize Stulz’ formula for credit spread (b/c you can figure it out)
• Which VaRs do we need to know for L1?
• Taylor approximation for a stock option
• What’s the p value of an F test?
• Impact of correlation on senior tranche
• A good bond practice question that reviews durations
• Tricky currency option question
• OAS for MBS
• What stock price process is most profitable for a delta hedge?
• In terms of notional exposure, AIG didn’t even make the top ten
• FRA and Futures move in opposite directions
• How many unique cells in a correlation/covariance matrix?
• How does stratified sampling accelerate MCS?
• On the relationship between optimal hedge ratio and hedge effectiveness measure
• Future vs Forward is a tradeoff between basis risk and liquidity risk
• Is GARCH mean reverting or not? (answer: yes and no)

External Links

• On the procyclical effects of Basel: “Under the internal ratings-based approach of Basel II, capital requirements are an increasing function of the probability of default, loss given default, and the exposure at default, and these inputs are likely to rise in downturns. Thus, when a recession worsens borrowers’ creditworthiness, it significantly increases banks’ capital requirement, contracting the supply of credit.” … “there are two basic alternatives to mitigate the procyclicality of Basel II – smoothing the inputs of the Basel II formula by using some sort of through-the-cycle adjustment of the default probabilities or smoothing the output by using some adjustment of the Basel II capital requirements computed from the point-in-time default probabilities.”
• Don van Deventer constantly produces high-quality content: Determinants of Corporate Credit Spreads and Modeling Correlated Default in a Reduced Form Model
• Moody’s says about Basel amendments: “One important amendment calls for stricter operational requirements for credit analysis for banks holding securitization exposures” and “Large banks with sizeable investment activities will be the most affected by the increase in capital charges and it is likely that their return on equity (ROE) will be significantly reduced. Retail banks and less sophisticated banks will be affected to a much lesser degree.”
• Excellent 8-page article on TROR (or TRS) and cat bonds by Towers Perrin (pdf here)
• PwC on model risk
• Historical data is necessary: “historical data remains the best way to forecast the future…Some argue that any financial modeling is misleading because you can never predict the future. But for assets to be traded they need a price. The price of an asset is a function of its expected future payouts and risk. So anytime you trade an asset, you're taking a position on its future value. Markets are more liquid when there is a consensus on prices and freeze when no one can agree.”
• Great write-up on model risk issues at xenomorph
• soberlook is good; e.g.,  a Delaware SPE that isn’t bankruptcy remote, retranching a credit index after default
• A wonderful $9 book on math

External (Rating Agencies)

• SEC proposed new rules for rating agencies; e.g., “will require an NRSRO that is paid by an arranger to rate a structured finance product to disclose to other NRSROs that it is in the process of rating the product. The arranger must agree to provide the same information to other NRSROs that wish to rate the product. The competing NRSRO would have to file an annual certification with the SEC stating that its access to the information is for the purpose of determining a credit rating and that it intends to rate a certain percentage of products.”
• Blame the regulators for encouraging AAA
• Did the “recourse rule” encourage banks to artificially herd to MBS?
• Floyd Norris on why the new SEC rule (information given to a rating agency hired by the issuer to rate a structured finance security must be given to other rating agencies) will increase risk of insider trading

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