Credit Valuation Adjustment (CVA) calculations for bonds, swaps and options

Student: Engibaryan Derenik

Faculty: International College of Economics and Finance

Educational Programme: Bachelor

Year of Graduation: 2014

This paper addresses the adjustment in derivative valuation when credit risk is taken account of – credit valuation adjustment (CVA). Counterparty credit risk is the risk that a party in a financial transaction would default. This paper shall detail the prerequisite financial theory and introduce the three valid approaches under the latest Basel agreements. It will investigate and compare two advanced approaches to bilateral CVA estimation. In course of our analysis we shall introduce the notion of wrong-way risk, which is the risk that the value of the underlying derivative is positively correlated to the value of credit worthiness of a counterparty to the derivative contract. A parsimonious one-way model for portfolio CVA estimation would be developed based on the investigation.

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