Counterparty Credit Risk and Credit Value Adjustment: A Continuing Challenge for Global Financial Markets, 2nd Edition

14.6 Summary

In this chapter, we have described the issues relating to funding, which are rather distinct but, in many ways, entwined with the problems of counterparty credit risk and BCVA. We have characterised the problem of “risk-free” derivatives valuation and the use of so-called “OIS discounting” as a more appropriate standard valuation (before CVA has been accounted for). The problem of FVA quantification and its link to DVA has also been addressed, together with the related issues of “cheapest-to-deliver collateral” and other optionality stemming from standard collateral agreements (CollVA).

The topics addressed in this chapter are broad and growing rapidly. The purpose has been to describe the important issues from a counterparty risk perspective. The interested reader is referred to the many publications on the topic for more general information on OIS discounting and funding.

In the next chapter, we will relax a final and important consideration, until now, which is the independence of exposure and default probability. This is the important and complex topic of wrong-way risk.

Notes

1. Noting that dual curve pricing is relevant for a single interest rate transaction and different currencies and cross-currency products will require many curves incorporating the various tenor basis and cross-currency basis effects. Optionality from collateral agreements will, in theory, introduce even more curves into the pricing problem.

2. We note that there are benefits in taking collateral ...