A Note on Discounting and Funding Value Adjustments for Derivatives
AbstractIn this paper, valuation of a derivative partially collateralized in a specific foreign currency defined in its credit support annex traded between default-free counterparties is studied. Two pricing approaches -- by hedging and by expectation -- are presented to obtain the same valuation formulae. Our findings show that the current marking-to-market value of such a derivative consists of three components: the price of the perfectly collateralized derivative (a.k.a. price by collateral rate discounting), the value adjustment due to different funding spreads between the payoff currency and the collateral currency, and the value adjustment due to funding requirements of the uncollateralized exposure. These results generalize previous works on discounting for fully collateralized derivatives and on funding value adjustment for partially collateralized or uncollateralized derivatives.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by University Library of Munich, Germany in its series MPRA Paper with number 44495.
Date of creation: 18 Feb 2013
Date of revision:
CSA; collateral; foreign collateral; derivative pricing; hedging; martingale pricing; FVA; funding cost; funding and discounting;
Find related papers by JEL classification:
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
- G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-03-16 (All new papers)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Masaaki Fujii & Yasufumi Shimada & Akihiko Takahashi, 2010. "Collateral Posting and Choice of Collateral Currency - Implications for Derivative Pricing and Risk Management-," CIRJE F-Series CIRJE-F-743, CIRJE, Faculty of Economics, University of Tokyo.
- Masaaki Fujii & Yasufumi Shimada & Akihiko Takahashi, 2009. "A Note on Construction of Multiple Swap Curves with and without Collateral," CARF F-Series CARF-F-154, Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo, revised Jan 2010.
- Michael Johannes & Suresh Sundaresan, 2007. "The Impact of Collateralization on Swap Rates," Journal of Finance, American Finance Association, vol. 62(1), pages 383-410, 02.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Ekkehart Schlicht).
If references are entirely missing, you can add them using this form.