Potential Future Exposure of Target Redemption Forwards

Wilmott Magazine, September 2023, 88-93

14 Pages Posted: 21 Nov 2022 Last revised: 20 Sep 2023

Date Written: November 1, 2022

Abstract

We calculate the PFE of TARFs using both a smile aware Heston model and a smile unaware Garman-Kohlhagen (GK) model. Results show that the FX Heston model tends to produce significantly different PFEs than the GK model, highlighting the importance for a dealer’s global simulation model to accurately capture 1) the distribution of the underlying spot rate, and 2) the joint distribution of the underlying and its implied volatility surface.

Keywords: PFE, FX Heston, Garman-Kohlhagen, Monte Carlo, FX Option, TARF, TARN

JEL Classification: C60

Suggested Citation

Sivorot, Steven and Renzitti, Stefano, Potential Future Exposure of Target Redemption Forwards (November 1, 2022). Wilmott Magazine, September 2023, 88-93, Available at SSRN: https://ssrn.com/abstract=4265110 or http://dx.doi.org/10.2139/ssrn.4265110

Steven Sivorot (Contact Author)

S&P Global ( email )

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1-778-372-4537 (Phone)

Stefano Renzitti

S&P Global ( email )

1066 West Hastings Street
Vancouver, British Columbia V6E 3X1
Canada

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