Accounting for OTC Derivatives: Funding Adjustments and the Re-Hypothecation Option

Albanese, Claudio; Andersen, Leif

doi:10.2139/ssrn.2482955

Cited by 24 publications

(32 citation statements)

References 6 publications

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“…respectively. See Albanese and Andersen (2014) for details. The unilateral definitions abstract from the fact that the dealer's default is irrelevant if the customer has already defaulted, and vice versa.…”

Section: A Technical Assumptionsmentioning

confidence: 99%

“…We have already cited Hull and White (), Cameron (), Cameron (), Becker and Sherif (), Hull and White (), Albanese and Andersen (), and Albanese, Andersen, and Iabichino ().…”

mentioning

confidence: 98%

“…We have already citedHull and White (2012),Cameron (2013),Cameron (2014a),Becker and Sherif (2015),Hull and White (2014),Albanese and Andersen (2014), andAlbanese, Andersen, and Iabichino (2015).24 The MM principle is that, in the absence of distress costs, the dealer's total balance-sheet cash flows and thus total market value are invariant to its capital structure. This is not enough on its own to treat the valuation effects of swap financing, given that adding a swap changes the dealer's total cash flows.…”

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confidence: 99%

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Funding Value Adjustments

Andersen¹,

Duffie²,

Song

2018

The Journal of Finance

143

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In this paper, we demonstrate that the funding value adjustments (FVAs) of major dealers are debt overhang costs to their shareholders. To maximize shareholder value, dealer quotations therefore adjust for FVAs. Our case studies include interest‐rate swap FVAs and violations of covered interest parity. Contrary to current valuation practice, FVAs are not themselves components of the market values of the positions being financed. Current dealer practice does, however, align incentives between trading desks and shareholders. We also establish a pecking order for preferred asset financing strategies and provide a new interpretation of the standard debit value adjustment.

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Section: A Technical Assumptionsmentioning

confidence: 99%

“…We have already cited Hull and White (), Cameron (), Cameron (), Becker and Sherif (), Hull and White (), Albanese and Andersen (), and Albanese, Andersen, and Iabichino ().…”

mentioning

confidence: 98%

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confidence: 99%

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Funding Value Adjustments

Andersen¹,

Duffie²,

Song

2018

The Journal of Finance

143

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“…The regulator says quite explicitly that the bank capital (reserve capital in particular) cannot be seen increasing as a consequence of the sole deterioration of the bank credit, all else being equal (see Albanese and Andersen (2014, Section 3.1)). In particular, regulators decided that the CVA should be computed unilaterally, as in (19), by contrast with the first-to-default CVA (FTDCVA) in (21).…”

Section: Computed On An Incremental Run-off Basis Where All the Undementioning

confidence: 99%

Credit, funding, margin, and capital valuation adjustments for bilateral portfolios

Albanese¹,

Caenazzo²,

Crépey

2017

Probab Uncertain Quant Risk

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which permits unrestricted use, distribution, and reproduction in any medium, provided you give appropriate credit to the original author(s) and the source, provide a link to the Creative Commons license, and indicate if changes were made.Abstract We apply to the concrete setup of a bank engaged into bilateral trade portfolios the XVA theoretical framework of Albanese and Crépey (2017), whereby so-called contra-liabilities and cost of capital are charged by the bank to its clients, on top of the fair valuation of counterparty risk, in order to account for the incompleteness of this risk. The transfer of the residual reserve credit capital from shareholders to creditors at bank default results in a unilateral CVA, consistent with the regulatory requirement that capital should not diminish as an effect of the sole deterioration of the bank credit spread. Our funding cost for variation margin (FVA) is defined asymmetrically since there is no benefit in holding excess capital in the future. Capital is fungible as a source of funding for variation margin, causing a material FVA reduction. We introduce a specialist initial margin lending scheme that drastically reduces the funding cost for initial margin (MVA). Our capital valuation adjustment (KVA) is defined as a risk premium, i.e. the cost of remunerating shareholder capital at risk at some hurdle rate. Keywords

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“…• FDA (akin to the DVA2 in Hull and White (2012)) and MDA are further contraliabilities respectively equal to the FVA and the MVA (see Albanese and Andersen (2014) and );…”

Section: Fair Valuationmentioning

confidence: 99%

Capital Valuation Adjustment and Funding Valuation Adjustment

Albanese

Caenazzo²,

Crépey

2016

SSRN Journal

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In the aftermath of the 2007 global financial crisis, banks started reflecting into derivative pricing the cost of capital and collateral funding through XVA metrics. Here XVA is a catch-all acronym whereby X is replaced by a letter such as C for credit, D for debt, F for funding, K for capital and so on, and VA stands for valuation adjustment.This behaviour is at odds with economies where markets for contingent claims are complete, whereby trades clear at fair valuations and the costs for capital and collateral are both irrelevant to investment decisions.In this paper, we set forth a mathematical formalism for derivative portfolio management in incomplete markets for banks. A particular emphasis is given to the problem of finding optimal strategies for retained earnings which ensure a sustainable dividend policy.

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Accounting for OTC Derivatives: Funding Adjustments and the Re-Hypothecation Option

Cited by 24 publications

References 6 publications

Funding Value Adjustments

Funding Value Adjustments

Credit, funding, margin, and capital valuation adjustments for bilateral portfolios

Capital Valuation Adjustment and Funding Valuation Adjustment

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