The Essentials of Risk Management, Third Edition, 3rd Edition

13

COUNTERPARTY CREDIT RISK

CVA, DVA, FVA, CECL, and IFRS 9

Counterparty credit risk (CCR) is the risk that a counterparty to a financial contract, such as a derivative, will default prior to the expiration of the contract and fail to make the required payments. Before 2006, CCR was managed by financial institutions through measuring their potential future exposures—that is, the likely maximum credit losses they might suffer—and then imposing limits on exposures to given counterparties and classes of counterparties. Firms also applied a range of collateralization and netting procedures to try to minimize their counterparty exposures.

Over time, some larger institutions began to calculate the expected losses associated with a counterparty exposure—effectively, ...