Credit Index Basis (Skew)

frstwrldprblm · Post by **frstwrldprblm** » Thu Jan 10, 2013 12:19 am

Hello,

Looking for some academic/white paper formulations of how to calculate what is called skew in the credit index space (and called index basis by others).

Any informal/formal refernces are greatly appreciated.

Cheng · Post by **Cheng** » Thu Jan 10, 2013 8:59 am

I don't have anything at hand but JPM published a lot along those lines during the golden days of structured credit.

Basically it's no rocket science. You have the index spread, the individual CDS spreads and the weightings (usually DV01 weighted iirc). Watch out for different restructuring conventions though. I haven't looked at it lately, so I think a few things changed, but in the past CDX IG traded without restructuring while the single CDS did (or vice versa). iTraxx Europe didn't have this issue.

Besided that the basis should be well behaved. "Skew" is typically used in the context of tranches and means the base correlation smile/skew.

frstwrldprblm · Post by **frstwrldprblm** » Thu Jan 10, 2013 6:17 pm

Yes to be quite honest unfortunately your response is common to what I have received:

"its not that hard, it must exist somewhere but I am not sure where"

I am not being critical, but that is why I am looking for something on paper potentially.

Cheng · Post by **Cheng** » Fri Jan 11, 2013 8:48 am

Well, I am pretty sure about the "where" part Smiley . Let me see whether I have something at home. This is pretty much stone age stuff.

Btw, you could try defaultrisk.com. They don't publish bank research there but maybe someone else has written it up.

polysena · Post by **polysena** » Fri Jan 11, 2013 2:05 pm

frstwrldprblm Would this help?

[url=/User%20Files/3854/measuring_risk_cred_ind.pdf]Attached File: measuring_risk_cred_ind.pdf[/url]

[url=/User%20Files/3854/com.univ.collaboratif.utils.pdf]Attached File: com.univ.collaboratif.utils.pdf[/url]

Poly

Cheng · Post by **Cheng** » Fri Jan 11, 2013 2:25 pm

Poly-zuki,

I had a quick glance at the first one, it seems to do the job.

Cheng-san

frstwrldprblm · Post by **frstwrldprblm** » Tue Jan 15, 2013 2:40 pm

Thanks polysena.

Did you have more skill with google, or are these from your own private stash?

I would be interested to know how you found these. Maybe I am searching for the wrong things.

Thank you

polysena · Post by **polysena** » Tue Jan 15, 2013 3:17 pm

${L_SMILIES_SMILE}$ could you have found them by googling perhaps, perhaps not.. key words basis and skew might not hit the target. I find it very disturbing that what some call the index basis, others call index skew.. But I believe the RM paper is on internet.. checked the other maybe too.

I am not directly involved with such computations myself (basis), but got interested some time ago when discussing with colleagues that were... and commenting their slides (how is it computed? blabla..)

In many of these real life finance things a lot is confusing to me... so I look and look and ask and read etc boring and tedious.. The RM paper: I knew the guy and thus attended a presentation in 2005 (but then I was still in academia doing other stuff, did not understand the use of that paper, even thought it was hellish boring..) I remembered about it recently and looked for it- so when you asked I thought well... As for the second paper, I am on a distribution list from Edhec got it from there.

you said you looked for academic/white papers... not how this is really done ${L_SMILIES_WINK}$ ... The RM paper is also a research paper ie proposes some extra degree of sophistication ..

Cheng · Post by **Cheng** » Tue Jan 15, 2013 3:34 pm

Poly,

I think this is pretty close to the "real world" Smiley . The interesting thing is that you can trade the basis (ie lock in a coupon stream over the lifetime of the index) but this requires you to post collateral etc. In the old days (read: before 2008) this was like a no-brainer trade people were doing everytime the basis got reasonably wide. But I would presume that it is pretty much dead nowadays (because regulation tells you that you can't hedge single CDS with an index even if it is the same portfolio). Or am I overly pessimistic here ?

polysena · Post by **polysena** » Tue Jan 15, 2013 4:37 pm

Dear Cheng,

"because regulation tells you that you can't hedge single CDS with an index even if it is the same portfolio" I am not sure how to answer to that( im Sinne wie soll ich das verstehen)... I believe you can .. no "regulatory no-go" to my knowledge if you are a bank of course (if you are a HF you can probably do many more things).. or then pls explain your question.