In this article, Dmitry Pugachevsky, Director of Research, analyses the results of this survey and discusses whether banks are ready for counterparty risk elements of Basel lll. Basel III significantly changes the way in which financial institutions address counterparty credit risk (CCR) and credit value adjustment (CVA). Enhancing counterparty credit risk management practices is a key focus for banks. This is in response to changes in accounting rules and new prudential and market regulations, which have tightened substantially following the financial crisis. Collectively, these changes are having a deep impact on the market and the way banks price and manage the risk associated with derivatives.
The global financial crisis brought counterparty credit risk and credit value adjustment (CVA) very much into the spotlight. The Basel III proposals first published in December 2009 introduced changes to the Basel II rules including a new capital charge against the volatility of CVA. As the Basel committee noted, two thirds of the counterparty risk related losses during the credit crisis were actually from CVA volatility rather than defaults. Not surprisingly then, the new CVA ‘VaR capital charge is quite punitive and worthy of focus.
In this article, David Kelly, Director of Credit Products at Quantifi, discusses how the credit crisis and regulatory responses have forced banks to update their counterparty risk management processes substantially. New regulations in the form of Basel III, the Dodd-Frank Act in the U.S. and European Market Infrastructure Regulation (EMIR) have dramatically increased capital requirements for counterparty credit risk. CVA desks have been developed in response to crisis-driven regulations for improved counterparty risk management. How do these centralized groups differ from traditional approaches to manage counterparty risk, and what types of data and analytical challenges do they face?
Quantifi explores the key challenges for banks in the implementation of counterparty risk management, focusing on data, technology and operational issues in the context of current trends and best practices.
Most banks are in the process of setting up counterparty risk management processes or improving existing ones. Unlike market risk, which can be effectively managed by individual trading desks or traders, counterparty risk is increasingly being priced and managed by a central credit value adjustments (CVA) desk or risk control group since the exposure tends to span multiple asset classes and business lines. Moreover, aggregated counterparty exposure may be significantly impacted by collateral and cross-product netting agreements.
Credit-linked notes can't be said to have risk-free collateral any more. In this article Dmitry Pugachevsky, Director of Research, Quantifi, suggests pricing them using techniques developed for bank counterparty risk.
One of the challenges in investing in credit linked notes (CLN) is the shortage of high quality debt for funding. This article explores a new type of trade - CLNs with risky collateral. It highlights that by taking into account all possible risk, including uncertainty of market value at early redemption, one can calculate values and sensitivities of such products, and trade them consistently as traditional CLNs.
In this article, Rohan Douglas, CEO, Quantifi and Dmitry Pugachevsky, Director of research, Quantifi, discuss the costs of funding OTC valuation. The implementation of new regulations, including Dodd-Frank, MiFID II, EMIR and Basel III, is significantly increasing the cost of capital and forcing banks to re-evaluate the economics of their over-the-counter (OTC) trading businesses.
Market best practice implemented by the most sophisticated banks now accurately measures all the components of a trade to analyse its profitability, including credit valuation adjustment (CVA), the cost of regulatory capital and, most recently, funding valuation adjustment (FVA).
The measurement and management of counterparty risk is in the midst of a revolution. Within recent memory of most counterparty risk managers it all used to be so much simpler. Limits were set on the same basis as traditional lending, and exposure measured against those limits was quantified using simple add-on factors applied to the notional of each transaction. Regulatory capital was based on the simple methodology which has been specified under Basel I.
In this article, Dr. Dmitry Pugachevsky, Director of Research, Quantifi & Rohan Douglas, CEO, Quantifi and Jean-Roch Sibille, Manager, Risk Dynamics & Aurelie Civilio, Senior Consultant, Risk Dynamics discuss the conditions for the effective risk management of Counterparty Credit Risk (CCR) by detailing and comparing capital requirements, identifying inconsistencies in prudential regulations and applying the various capital approaches on some typical portfolio strategies observed within financial institutions.
There is compelling evidence that the market for interest rate products has moved to pricing on this basis, but not all market participants are at the stage where existing legacy valuation and risk legacy valuations are up to date. The changes required for existing systems are significant and present many challenges in an environment where efficient use of capital at the business line level is becoming increasingly important.
Securitisation swaps are a critical, yet often neglected area of finance markets. This handbook provides an introduction to the basics, through to a detailed discussion of all the key risks and how a transaction is put together from start to finish. In Chapter 7, the authors offer some numerical examples to provide ballpark CFVA costs. These example use sophisticated Monte Carlo analytics developed by Quantifi. Quantifi has an established reputation as the market leader in analytics and is built on the latest technology and incorporating advanced numerical methods. Read More