Collateralised Exposure Modelling: Bridging the Gap Risk

Abstract

Market-driven defaults, such as Archegos, pointed once more to the importance of Wrong Way Risk, concentration and leverage in shaping the tail of the credit loss distribution. In the following, Fabrizio Anfuso presents a minimal framework for the joint dynamics of the market risk factors, the trade and collateral portfolio and the overall balance sheet of the defaulting counterparty. Based on this, the author draws general conclusions, directly applicable to improve the risk sensitivity of existing exposure metrics, especially in the presence of concentration, leverage and excess collateral.

Keywords: Collateralised Exposure, Gap Risk, Overcollateralisation, Leverage, Concentration, WWR

JEL Classification: C12, C13, C15, C52, C53