A Copula Approach to Credit Valuation Adjustment for Swaps Under Wrong-Way Risk

13 Pages Posted: 14 Feb 2018

See all articles by Jakub Cerny

Jakub Cerny

Charles University in Prague - Faculty of Mathematics and Physics

Jiri Witzany

University of Economics in Prague

Date Written: February 13, 2018

Abstract

This paper deals with the credit valuation adjustment (CVA) of interest rate swap (IRS) contracts in the presence of an adverse dependence between the default time and interest rates: so-called wrong-way risk (WWR). It compares the upper Fréchet bound approach introduced in a 2013 paper by Umberto Cherubini with a new semi-analytical IRS–CVA formula that we are proposing as a modification of Cherubini’s approach. The approaches are compared via a numerical study, in which we find that our semianalytical formula (the modified approach) provides more precise IRS–CVA valuation results.

Keywords: counterparty credit risk, credit valuation adjustment (CVA), copulas, wrong-way risk (WWR), interest rate swap (IRS).

Suggested Citation

Cerny, Jakub and Witzany, Jiri, A Copula Approach to Credit Valuation Adjustment for Swaps Under Wrong-Way Risk (February 13, 2018). Journal of Credit Risk, Forthcoming. Available at SSRN: https://ssrn.com/abstract=3123144

Jakub Cerny (Contact Author)

Charles University in Prague - Faculty of Mathematics and Physics ( email )

Sokolovska 83
Prague, 186 75
Czech Republic

Jiri Witzany

University of Economics in Prague ( email )

Winston Churchilla Sq. 4
Prague 3, 130 67
Czech Republic

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