Fixed Income Analysis:Securities, Pricing, and Risk Management

This book provides an introduction to the markets for xed-income securities and the models
and methods that are used to analyze such securities. The class of xed-income securities covers
securities where the issuer promises one or several xed, predetermined payments at given points
in time. This is the case for standard deposit arrangements and bonds. However, several related
securities with payments that are tied to the development in some particular index, interest rate,
or asset price are typically also termed xed-income securities. In the broadest sense of the term,
the many dierent interest rate and bond derivatives are also considered xed-income products.
Maybe a more descriptive term for this broad class of securities is \interest rate securities", since
the values of these nancial contracts are derived from current interest rates and expectations and
uncertainty about future interest rates. The key concept in the analysis of xed-income securities
is the term structure of interest rates, which is loosely dened as the dependence between interest
rates and maturities.
The outline of this book is as follows. The rst two chapters deal with the most common xedincome
securities, x much of the notation and terminology, and discuss basic relations between
key concepts.
The main part of the book discusses models of the evolution of the term structure of interest
rates over time. Chapter 3 introduces much of the mathematics needed for developing and
analyzing modern dynamic models of interest rates. In Chapters 4 and 5 we review some of the
important general results on asset pricing. In particular, we dene and relate the key concepts of
arbitrage, state-price de
ators, and risk-neutral probability measures. The connection to market
completeness and individual investors' behavior is also addressed, just as the implications of the
general asset pricing theory for the modeling of the term structure are discussed. Chapter 6 applies
the general asset pricing tools to explore the economics of the term structure of interest rates. For
example we discuss the relation between the term structure of interest rates and macro-economic
variables such as aggregate consumption, production, and in
ation. We will also review some of
the traditional hypotheses on the shape of the yield curve, e.g. the expectation hypotheses.