We introduce an innovative theoretical framework for the valuation and replication of derivative transactions between defaultable entities based on the principle of arbitrage freedom. Our framework extends the traditional formulations based on Credit and Debit Valuation Adjustments (CVA and...

The Dodd-Frank Act and the recently proposed Basel Committee regulatory framework for CCPs are a game changer for counterparty credit risk management. The practice of charging an upfront fee as a Credit Valuation Adjustment (CVA) to provision against counterparty credit risk liabilities is being...

Valuing, hedging and securitizing counterparty credit risk involves analyzing large portfolios of netting sets over time horizons spanning decades. Theory dictates that the simulation measure should be coherent, i.e. arbitrage free. It should also be used consistently both to simulate and to...

Clearing members face substantial costs for capital as they post Initial Margin and are required to contribute to the Default Fund of the Central Counterparty Clearing House (CCP). In this paper, we discuss how these costs can be priced and passed on to clients. A transfer pricing policy entails...

This article outlines a framework for the analysis of extreme events based on forward-looking reverse stress testing. We carry out a portfolio simulation and identify stress scenarios which are critical for bank solvency as the ones contributing the most to cost of capital, as expressed by KVA...

Performance assessment of derivative pricing models revolves around a comparative model-risk analysis. From among the plethora of econometrically unrealistic models, the ones that survive Darwinian selection tend to generate systematic short term profits while exposing the bank to long term...

The latest generation of volatility derivatives goes beyond variance and volatility swaps and probe our ability to price realized variance and sojourn times along bridges for the underlying stock price process. In this paper, we give an operator algebraic treatment of this problem based on Dyson...