Credit Valuation Adjustment (CVA)

Abstract

This paper provides an overview of counterparty default risk and counter-party valuation adjustments, within the context of collateralized and un-collateralized trading relationships. The counterparty valuation adjustment terms are derived by decomposing an un-defaultable portfolio into a set of binary states. These states are a set of market values (positive or negative), default states (default or no default) and recoveries (recover the the recovery amount or not). In particular, the asset charge is formulated for both un-collateralized and collateralized portfolios while different models are provided for the collateral transfer calculations of the collateralized trading accounts.