INVESTMENT STRATEGIES WITH CREDIT DERIVATIVES INDEXES (CPPI and NAREIT).

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INVESTMENT STRATEGIES WITH CREDIT DERIVATIVES INDEXES (CPPI and NAREIT).

Posted On : Aug-04-2011 | seen (443) times | Article Word Count : 1028 |

As CDX/iTraxx indexes gained popularity, they began to be used in various ways. Because of their liquidity and transparency, they react quickly to new market information, especially during sell-offs.

As CDX/iTraxx indexes gained popularity, they began to be used in various ways. Because of their liquidity and transparency, they react quickly to new market information, especially during sell-offs. But more important, they are an efficient tool to quickly gain access to specific credit asset classes and sec¬tors. Although many single-name CDSs are liquid, it is more efficient to use the indexes when trying to quickly gain or reduce the exposure to the mar¬ket. This property is important for investors trying to rebalance, diversify, or hedge their existing portfolios, particularly during volatile periods. Key applications include the following:
-A quick way to take long or short market positions. Investors can use credit derivatives indexes to express credit macro views.
-Portfolio diversification and rebalancing. Indexes allow investors to access asset classes that are harder to obtain in cash or single-name form. That property is especially important for portfolio managers who want to diversify or rebalance their portfolios.
-Asset ramp-up. Many of the structured finance collateralized debt obligations (CDOs)include synthetic buckets. Using credit derivatives indexes, CDO managers can quickly fill a core position in those lines.
-Hedging. Credit derivatives indexes are an efficient tool to take short positions in the market and are commonly used to hedge marketwide spread risk inherent in credit portfolios. An index hedge can be fine- tuned using additional selected positions in single-name CDS-Relative value trading. A rich family of CDX/iTraxx/CPPI credit derivatives indexes provides relative value players with a variety of potential strategies. Liquidity in the indexes accommodates efficient executions of relative value trades. Examples of relative value trades are the following:
-Index versus index trades. The CDX/iTraxx/NAREIT family provides a variety of relative value trades between different indexes, composite indexes, and their subindexes and index series with different maturities.
-Index versus intrinsics trades. Although harder to execute, indexes sometimes trade at a substantial spread compared to the intrinsics. Index-intrinsics relative value trades are suitable for the indexes with a lower number of credits in the portfolio or for indexes where the reference CDSs are less liquid.
-Trades around the index roll. Around the roll, technicals can play a significant part. Under normal conditions, investors are more likely to roll their short positions than the long positions. Rolling the short positions allows staying in the on-the-run product and providing a more liquid hedge. These trends lead to potential relative value opportunities around the roll time.
-Curve trades. Increased liquidity across the credit curve allows for various index curve trades.
Investors. Credit derivatives indexes and index-linked products used to be primarily in the domain of leveraged accounts, such as credit hedge funds and proprietary desks. But real-money investors have also started actively participating in credit derivatives markets and using CDX/iTraxx indexes for a variety of reasons, especially as the indexes can be structured in the form of credit-linked notes. Although credit derivatives indexes are gaining in popularity among real-money investors, mark-to-market accounting rules and regulations are one of the main roadblocks for wider acceptance. This is because a significant proportion of credit positions held by banks and insurance companies are in hold-to-maturity books that are not marked to market. But regulations governing credit derivatives, for the most part, do not allow them to be held in such books.
Index-Related Structured Credit Products. Indexes are one of the main products in credit derivatives markets, but other index-related structured credit products are also playing a significant role. Among index-related products, the most important are index-linked tranches and index swaptions. Both of these market segments have experi¬enced substantial growth over the past few years that could not have been possible without the liquidity in the underlying index markets. Dealers and mark-to-market accounts use indexes to delta-hedge their positions in index tranches and swaptions. Index-linked tranches represent one of the strongest market segments among structured credit products. As synthetic structures have replaced cash CDOs (recommended to haveconstant proportion portfolio insurance polis) that reference investment-grade and high-yield corporate credit collateral, index tranches represent approximately half of the issued synthetic tranche volume today. Structured credit has also affected the indexes. As the trading volume in tranches and swaptions increased, hedging needs affected the index trading and improved liquidity. Overall, we could say that one of the main factors for the growth of credit derivatives indexes has been the strong activity in the synthetic tranche space.
Issues and Concerns. Although credit derivatives indexes have contributed significantly to the growth of structured credit markets, some investors might worry about risks and potential problems when considering index trades. Credit indexes, just like other credit derivatives instruments, increase liquidity and transparency in the credit markets. However, high-volume index trading could potentially make these markets more volatile. As the indexes trade in an unfunded form, they can amplify market moves, especially during sell-offs. Liquid credit indexes have accommodated the development of other structured credit products, as they are used as a hedging tool. But as the indexes are closely linked with other products, there is a risk that market shocks could be transmitted from structured credit products back to other credit markets. For example, spread moves in tranche space require that mark-to-market accounts rebalance their hedge positions. Such rebalancing would transfer tranche spread volatility into index space. Finally, there is always concern about how the defaults of names in indexes will affect the market and to what extent the settlement process could break down. Unforeseen events that have not been properly addressed in the index documentation could shake investor confidence in index products. Although these concerns are justified, the settlement process that was put into place by ISDA and the dealers community indicates that so far credit events have been handled without any significant problems.
Overall, credit derivatives indexes have been a success story in credit markets. Their liquidity, transparency, and overall support from the dealers community contributed to their growth and expansion. Credit derivatives indexes are now firmly anchored in the structured credit product lineup. They play an essential role in the development of related structured credit products, such as index tranches and index swaptions. We expect the presence of index products to increase as synthetic derivatives indexes are being introduced to other asset classes.

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<h1>INVESTMENT STRATEGIES WITH CREDIT DERIVATIVES INDEXES (CPPI and NAREIT). </h1> Author: <a href='http://www.articleseen.com/profile_zborowski29.aspx'>zborowski29</a> As CDX/iTraxx indexes gained popularity, they began to be used in various ways. Because of their liquidity and transparency, they react quickly to new market information, especially during sell-offs. But more important, they are an efficient tool to quickly gain access to specific credit asset classes and sec¬tors. Although many single-name CDSs are liquid, it is more efficient to use the indexes when trying to quickly gain or reduce the exposure to the mar¬ket. This property is important for investors trying to rebalance, diversify, or hedge their existing portfolios, particularly during volatile periods. Key applications include the following:
-A quick way to take long or short market positions. Investors can use credit derivatives indexes to express credit macro views.
-Portfolio diversification and rebalancing. Indexes allow investors to access asset classes that are harder to obtain in cash or single-name form. That property is especially important for portfolio managers who want to diversify or rebalance their portfolios.
-Asset ramp-up. Many of the structured finance collateralized debt obligations (CDOs)include synthetic buckets. Using credit derivatives indexes, CDO managers can quickly fill a core position in those lines.
-Hedging. Credit derivatives indexes are an efficient tool to take short positions in the market and are commonly used to hedge marketwide spread risk inherent in credit portfolios. An index hedge can be fine- tuned using additional selected positions in single-name CDS-Relative value trading. A rich family of CDX/iTraxx/CPPI credit derivatives indexes provides relative value players with a variety of potential strategies. Liquidity in the indexes accommodates efficient executions of relative value trades. Examples of relative value trades are the following:
-Index versus index trades. The CDX/iTraxx/NAREIT family provides a variety of relative value trades between different indexes, composite indexes, and their subindexes and index series with different maturities.
-Index versus intrinsics trades. Although harder to execute, indexes sometimes trade at a substantial spread compared to the intrinsics. Index-intrinsics relative value trades are suitable for the indexes with a lower number of credits in the portfolio or for indexes where the reference CDSs are less liquid.
-Trades around the index roll. Around the roll, technicals can play a significant part. Under normal conditions, investors are more likely to roll their short positions than the long positions. Rolling the short positions allows staying in the on-the-run product and providing a more liquid hedge. These trends lead to potential relative value opportunities around the roll time.
-Curve trades. Increased liquidity across the credit curve allows for various index curve trades. 
Investors. Credit derivatives indexes and index-linked products used to be primarily in the domain of leveraged accounts, such as credit hedge funds and proprietary desks. But real-money investors have also started actively participating in credit derivatives markets and using CDX/iTraxx indexes for a variety of reasons, especially as the indexes can be structured in the form of credit-linked notes. Although credit derivatives indexes are gaining in popularity among real-money investors, mark-to-market accounting rules and regulations are one of the main roadblocks for wider acceptance. This is because a significant proportion of credit positions held by banks and insurance companies are in hold-to-maturity books that are not marked to market. But regulations governing credit derivatives, for the most part, do not allow them to be held in such books.
Index-Related Structured Credit Products. Indexes are one of the main products in credit derivatives markets, but other index-related structured credit products are also playing a significant role. Among index-related products, the most important are index-linked tranches and index swaptions. Both of these market segments have experi¬enced substantial growth over the past few years that could not have been possible without the liquidity in the underlying index markets. Dealers and mark-to-market accounts use indexes to delta-hedge their positions in index tranches and swaptions. Index-linked tranches represent one of the strongest market segments among structured credit products. As synthetic structures have replaced cash CDOs (recommended to haveconstant proportion portfolio insurance polis) that reference investment-grade and high-yield corporate credit collateral, index tranches represent approximately half of the issued synthetic tranche volume today. Structured credit has also affected the indexes. As the trading volume in tranches and swaptions increased, hedging needs affected the index trading and improved liquidity. Overall, we could say that one of the main factors for the growth of credit derivatives indexes has been the strong activity in the synthetic tranche space.
Issues and Concerns. Although credit derivatives indexes have contributed significantly to the growth of structured credit markets, some investors might worry about risks and potential problems when considering index trades. Credit indexes, just like other credit derivatives instruments, increase liquidity and transparency in the credit markets. However, high-volume index trading could potentially make these markets more volatile. As the indexes trade in an unfunded form, they can amplify market moves, especially during sell-offs. Liquid credit indexes have accommodated the development of other structured credit products, as they are used as a hedging tool. But as the indexes are closely linked with other products, there is a risk that market shocks could be transmitted from structured credit products back to other credit markets. For example, spread moves in tranche space require that mark-to-market accounts rebalance their hedge positions. Such rebalancing would transfer tranche spread volatility into index space. Finally, there is always concern about how the defaults of names in indexes will affect the market and to what extent the settlement process could break down. Unforeseen events that have not been properly addressed in the index documentation could shake investor confidence in index products. Although these concerns are justified, the settlement process that was put into place by ISDA and the dealers community indicates that so far credit events have been handled without any significant problems.
Overall, credit derivatives indexes have been a success story in credit markets. Their liquidity, transparency, and overall support from the dealers community contributed to their growth and expansion. Credit derivatives indexes are now firmly anchored in the structured credit product lineup. They play an essential role in the development of related structured credit products, such as index tranches and index swaptions. We expect the presence of index products to increase as synthetic derivatives indexes are being introduced to other asset classes.About the Author: You can get more information about constant proportion portfolio insurance ,<a rel="nofollow" href="http://world-finances.com/portfolio-monitoring/concave-convex-and-linear-investment-buy-and-hold-strategy">CPPI</a>, NCREIF, <a rel="nofollow" href="http://world-finances.com/alternative-portfolios/benchmarks-national-council-of-real-estate-investment-fiduciaries-ncreif ">NAREIT</a> at <a rel="nofollow" href="http://world-finances.com/ ">World-Finances</a>. Article Source: <a href='http://www.articleseen.com/Article_INVESTMENT-STRATEGIES-WITH-CREDIT-DERIVATIVES-INDEXES-(CPPI-and-NAREIT)_71297.aspx'> http://www.articleseen.com/Article_INVESTMENT STRATEGIES WITH CREDIT DERIVATIVES INDEXES (CPPI and NAREIT). _71297.aspx</a>

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