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FRM Part II · FRM Exam Part II · High-level Summary of Basel III Reforms

A bank's CVA desk buys a single-name CDS on a counterparty and an index CDS to hedge CVA. Under the Basel III CVA framework, which treatment is correct for the capital relief these hedges provide?

Eligible CDS hedges can reduce CVA capital under SA-CVA or full BA-CVA, and hedges used for CVA are excluded from the market risk capital calculation so the same position is not counted twice. Saying they never receive recognition, or are counted in both, is wrong.

  1. AEligible CVA hedges can reduce CVA capital under SA-CVA or full BA-CVA, but hedges used for CVA are removed from the market risk trading book capital calculationCorrect
  2. BHedges reduce CVA capital and are also fully included in the market risk capital charge
  3. CCDS hedges never provide any capital recognition
  4. DOnly internal rating-based hedges recognise capital relief; CDS hedges do not

Explanation

Eligible CVA hedges (e.g., single-name and index CDS) are recognised in the CVA capital charge, and those used as CVA hedges are excluded from the market risk framework to avoid double counting. The other options misstate hedge recognition.

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