A Quantitative Look at FVA - Theory and Implementation

The practice of incorporating Funding Valuation Adjustment (FVA) into derivative prices has been hotly debated since the practice began in 2008. As bank funding costs began diverging significantly from risk-free discounting rates, clients received widely varying dealer prices for a specific derivative, reflecting differing funding costs between the banks and violating the law of one price. Despite the debate, many quantitative practitioners wish to incorporate FVA into their derivative valuations – but developing and implementing an accurate FVA framework can present significant theoretical and practical challenges.

On Thursday, February 28, 2013 Numerix held a quantitative discussion with Dr. Alexandre Antonov, Senior VP of Quantitative Research at Numerix, as he reviewed current FVA theory and outlined a new universal FVA framework.

Given informational, theoretical, numerical and practical issues related to the direct implementation of the framework, Dr. Antonov proposes an efficient approximation (which becomes exact for important special cases). The proposed approximation can be easily implemented, as it essentially just requires portfolio future prices (i.e. the same information as in CVA calculations).

Dr. Antonov covered:

  • FVA theory framework
    • Single rate classical models
    • Multi-rate models for general accounts
  • Theoretical and numerical issues
  • Approximation
  • Implementation

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