RiskProfiler™: AD&Co's Complete Valuation Solution

RiskProfiler™ is AD&Co’s MBS valuation and risk measurement system integrated with AD&Co's Vectors™ prepayment, credit and valuation solutions.  It incorporates standard and advanced valuation technique including OAS, prOAS, credit OAS, scenario analysis and dynamic credit rating, and derivative pricing. For traditional OAS, the system operates with AD&Co's suite of prepayment models and interest rate models.  For Credit OAS, the role of the prepayment model is played by our LoanDynamics™ Model (LDM), and our interest rate model is complemented by our stochastic home price model.  Hence, both prepayment and default options are captured in the analysis, in the best possible way

Much like traditional MBS valuation systems, RiskProfiler™ converts market prices into OAS or other measures (like Yield) and produces dozens of Greeks: effective duration and convexity, key rates, Vega, sensitivity to prepayment tunings, etc.  Unlike other systems, Risk Profiler™ can value instruments by forecasting default rates and losses and even measure exposures to short-term HPA or long-term HPA.  It can combine every computed risk metric across portfolio instruments.
AD&Co's proprietary “breakpoint” credit rating method is fully automated within RiskProfiler™.  It can be used to gain a dynamic rating measure called Breakpoint Ratio, credit outcomes on a grid of optimistic and pessimistic scenarios and even assess their probabilities using AD&Co’s extension of the Vasicek loss model (“3-part Vasicek”).

In addition, RiskProfiler™ is filled with built-in utilities and tools to load market rates, swaption matrix and deals’ supplemental data right off of Bloomberg, alter prepay model tunings, set tasks that suit a particular business regimen and safely keep positions along with all analytic assumptions in the database.

A thoroughly designed interface exposes market data, valuation options, tunings and results. 

Instruments Covered

“MBS”- all fixed rate pass-throughs or whole loans.  The cashflow generator is AD&Co’s and includes computation of the principal, interest and loss components where relevant.  No 3rd-party license is required, but users are responsible for loading MBS indicative data (WAM, WAC) and, optionally, enhanced collateral data (loans size, LTV, FICO, geography, etc.), or LDM-related credit data.  The built-in Bloomberg link helps retrieve this data (Bloomberg license required).

“ARM”- all adjustable-rate pass-throughs or non-securitized loans.  All that is stated for MBS applies except there are many more fields included that describe coupon resets (index, frequency, margin, caps).

“iCMO”- CMOs or ABS processed via a built-in Intex link (Intex licensed required).  Since the entire deal’s structure is kept by Intex, you need only to provide the cusip and analytical assumptions.  Intex also serves as the data source for LDM: LTV, FICO, loan status, etc.  You can even inspect the completeness of loan data and provide your own default values for missing fields.  Don’t want to employ Intex’s loan data?  RiskProfiler™ can read user-supplied collateral data regardless of its source.

“Bond”- non-MBS interest rate derivatives like usual bonds and swaps, swaptions, caps and floors.  Powered solely by AD&Co, no 3rd-party tools are needed.  Bonds and swaps can have separate schedules for call, put, coupon (step-ups/downs) or explicit amortization (“sink”).  Calls and puts can be European, American or Bermudan.

Regardless of the actual MBS or CMO type, you can “strip” the cashflow and compute the values of IOs, POs, MSR pieces or the IO Multiple.  The same instrument can be processed via LDM or via AD&Co’s residential MBS prepayment model.

*) The use of Bloomberg links is optional and external to RiskProfiler™ and is not an integral part of AD&Co’s analytics

 

Valuation Methods

RiskProfiler™ implements all AD&Co’s rigor in understanding how MBS are priced in the marketplace. 

Base Case Analysis:  While our prepayment models and LDM can forecast prepayment, default and losses of loans, they can’t compute the resultant cashflows of complex financial instruments on their own.  RiskProfiler™ can.

Traditional OAS Method: Option-adjusted valuation using AD&Co’s empirical prepayment model.  For MBS and ARM pass-throughs, we can rely on the blazing speed of backward induction – thanks to the fine property of our active-passive decomposition (APD) modeling structure.  For CMOs, an efficient Monte-Carlo, or even more accurate, quasi Monte-Carlo will be employed.

The AD&Co prOAS Method:  An OAS method operating with a risk-neutral prepayment model instead of an empirical one.  This method accounts for the prepay model risk priced by the market.  It levels the playing field for instruments like TBA, IOs, POs and CMOs.  The prOAS method is proven to be a more accurate predictor of price change than the traditional OAS.

The AD&Co Credit OAS Method:  An OAS method operating in the space of two random risk factors, interest rates and home prices, and allows losses to be modeled explicitly.  Rather than using a traditional OAS method with an artificially inflated discount spread (OAS), we rely on the LDM to directly forecast default rates and loss severities, loan by loan, path by path.  Thus generated cashflows are discounted using a suitable technical spread (crOAS) that reflect funding and liquidity rather than primary economic factors.

Each of these methods is available within one system, RiskProfiler™, and engaged by simple user selections.

Unique Credit Analytics

RiskProfiler™ loses nothing to other traditional OAS systems in its functionality, analytical depth or computational power.  However, it is unique in that it includes truly unprecedented credit valuation analytics.  Some of the highlights are:

• All credit analyses are performed at loan-level when possible.
• HPA is viewed as a random factor and modeled as a stochastic process.  This feature is integral to our understanding the ways both default option and capital structures should be objectively valued. 
• HPI is forecasted and simulated down to the MSA level using “Geographical Localizer”.
• The home price process is alterable by transparent tunings affecting the short-term forecast or the long-term equilibrium.  These tunings can be used to achieve HPA risk-adjustments as well as to gauge ABS’ exposure to home prices.  Users do not have to agree with AD&Co on the HPA model – they can alter it.. 
• Aggregation of path-wise portfolio losses and distribution of losses as well as graphical deptiction.  Although this is not the only method to “see beyond the averages,” many credit players like to have it.
• Automated AD&Co’s “breakpoint” methodology that measures bond’s distance to its first loss showing credit risk in a tabulated form with possible outcomes and probabilities



System at Glance

Consider an analysis of a non-agency CMO. Our interest rate model and the HPI model will produce economic scenarios – in accordance with the analysis type.  AD&Co's Valuation engine will obtain the collateral data, loan by loan, and for each of the scenarios, send it to the LDM to produce SMM, MDR, severity, and delinquency monthly rates.  Then, these vectors will be passed to Intex for then ecessary aggregation and cashflow generation for the CMO tranche in question.  The Valuation engine uses these cashflows to compute various analytical measures.

When analyzing MBS and ARM loans or pass-throughs, Intex won’t be called.  When analyzing agency CMOs, the role of LDM will be played by AD&Co’s residential prepayment model.

Unlimited Storage Running an MS SQL database means having nearly unlimited storage for positions and historical (daily) results.  Everything you do with RiskProfiler™, from setting assumptions to computing risk measures, is stored in a database.  Using these database records, you can add as many custom reports as you like.  RiskProfiler™ doesn’t restrict you in the way you want to aggregate, group and display results.

Use the Full Power of Your Hardware RiskProfiler™ is a multi-processing application with a distributed computing option.  This means that one can install it on a dedicated powerful server (with many processors) and take advantage of them all.  Or, you can set-up a cluster of computers - RiskProfiler™ will use them all.  For example, CMOs, the most time consuming instruments, will be sent to various processors and computed simultaneously rather than sequentially.

For more information or to request a free 30-day trial of the RiskProfiler™ system, please fill out a request form or contact Rob Landauer at 212-274-9075.

RELATED RESEARCH

The Concept of Credit OAS in Valuation of MBS
Prepayment Risk-and-Option-Adjusted Valuation of MBS
Divide & Conquer: Exploring New OAS Horizons, Parts I, II & III
Interest Rate Modeling: A Conscientious Choice
An Implied Prepayment Model for MBS