4,067 research outputs found
FX Modelling in Collateralized Markets: foreign measures, basis curves, and pricing formulae
We present a general derivation of the arbitrage-free pricing framework for
multiple-currency collateralized products. We include the impact on option
pricing of the policy adopted to fund in foreign currency, so that we are able
to price contracts with cash flows and/or collateral accounts expressed in
foreign currencies inclusive of funding costs originating from dislocations in
the FX market. Then, we apply these results to price cross-currency swaps under
different market situations, to understand how to implement a feasible curve
bootstrap procedure. We present the main practical problems arising from the
way the market is quoting liquid instruments: uncertainties about collateral
currencies and renotioning features. We discuss the theoretical requirements to
implement curve bootstrapping and the approximations usually taken to
practically implement the procedure. We also provide numerical examples based
on real market data
CCPs, Central Clearing, CSA, Credit Collateral and Funding Costs Valuation FAQ: Re-hypothecation, CVA, Closeout, Netting, WWR, Gap-Risk, Initial and Variation Margins, Multiple Discount Curves, FVA?
We present a dialogue on Funding Costs and Counterparty Credit Risk modeling,
inclusive of collateral, wrong way risk, gap risk and possible Central Clearing
implementation through CCPs. This framework is important following the fact
that derivatives valuation and risk analysis has moved from exotic derivatives
managed on simple single asset classes to simple derivatives embedding the new
or previously neglected types of complex and interconnected nonlinear risks we
address here. This dialogue is the continuation of the "Counterparty Risk,
Collateral and Funding FAQ" by Brigo (2011). In this dialogue we focus more on
funding costs for the hedging strategy of a portfolio of trades, on the
non-linearities emerging from assuming borrowing and lending rates to be
different, on the resulting aggregation-dependent valuation process and its
operational challenges, on the implications of the onset of central clearing,
on the macro and micro effects on valuation and risk of the onset of CCPs, on
initial and variation margins impact on valuation, and on multiple discount
curves. Through questions and answers (Q&A) between a senior expert and a
junior colleague, and by referring to the growing body of literature on the
subject, we present a unified view of valuation (and risk) that takes all such
aspects into account
Stressing rating criteria allowing for default clustering: the CPDO case
After a brief review of the literature on rating arbitrage for corporate and structured nance, we introduce the standard criteria adopted by rating agencies to assess riskiness of Constant Proportion Debt Obligations (CPDO). Then, we propose a new rating model in order to incorporate a more realistic loss distribution showing a multi-modal shape, which, in turn, is linked to default possibilities for clusters (possibly sectors) of names of the economy. In this framework, we show that the riskiness of CPDOs is substantially increased leading to a decrease of their rating, and in particular, we found that the expected payout of the gap-risk option, embedded in CPDOs, is greatly enhanced.CPDO Rating, Rating Arbitrage, Structured Finance, Loss Distribution, Loss Dynamics, Cluster Default Dynamics, Gap Risk
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