Skip to content

FRM Part II · FRM Exam Part II · Counterparty Risk and Beyond

A bank has a swap with a counterparty. Its expected positive exposure profile is flat at USD 10 million, the counterparty's expected negative exposure (the bank's liability) is flat at USD 6 million, and the lifetime discounted effect is such that the counterparty default probability is 4%, the bank's own default probability is 2%, LGD is 50% for both, and defaults are independent. Using the simple bilateral approximation (ignoring first-to-default and discounting), what is the bilateral CVA (net CVA minus DVA)?

Net bilateral CVA is unilateral CVA minus DVA. CVA is 10 times 4% times 50%, equal to USD 0.20 million. DVA is 6 times 2% times 50%, equal to USD 0.06 million. The net charge is USD 0.14 million; adding DVA instead would wrongly give USD 0.26 million.

  1. AUSD 0.14 millionCorrect
  2. BUSD 0.20 million
  3. CUSD 0.08 million
  4. DUSD 0.26 million

Explanation

CVA = 10 x 4% x 50% = 0.20. DVA = 6 x 2% x 50% = 0.06. Net adjustment = 0.20 - 0.06 = 0.14. Using the CVA alone gives 0.20, and adding DVA gives 0.26, which is a sign error.

Did you get it right without looking?

One question tells you little. A timed set on Counterparty Risk and Beyond shows your real accuracy, how long you take and where you lose marks.

Practise Counterparty Risk and BeyondFree diagnostic mock

More Counterparty Risk and Beyond questions