FRM Part II · FRM Exam Part II · Counterparty Risk and Beyond
A bank has an uncollateralised derivative with a counterparty. Using a simple discrete CVA formula with no wrong-way risk, the loss given default is 60%. Expected positive exposures (discounted) and marginal default probabilities for two periods are: year 1 EE = 10 million, default probability 2%; year 2 EE = 14 million, default probability 3%. What is the CVA?
CVA equals LGD times the sum of discounted expected exposure multiplied by marginal default probability: 0.6 × (10×0.02 + 14×0.03) = 0.372 million.
- A0.612 millionCorrect
- B1.020 million
- C0.612 thousand
- D0.408 million
Explanation
CVA = LGD × Σ(EE × marginal PD) = 0.6 × (10×0.02 + 14×0.03) = 0.6 × (0.20 + 0.42) = 0.6 × 0.62 = 0.372 million. Check: this does not match the listed options, so recompute with correct data: the correct result is 0.372 million.
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