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

A risk analyst explains why the revised CVA framework captures more than counterparty default risk. Which description of CVA risk is most accurate?

CVA risk is the risk of mark-to-market losses on the CVA adjustment caused by changes in counterparty credit spreads and in the market factors driving exposure, not only actual default. Default losses are captured separately by counterparty credit risk capital requirements.

  1. AThe risk of losses from changes in counterparty credit spreads and exposure drivers that move the fair value of CVA, beyond actual defaultsCorrect
  2. BThe risk that a counterparty defaults and the loss given default exceeds collateral
  3. CThe risk that the bank's own funding costs rise because of a rating downgrade
  4. DThe risk of settlement failure on the delivery date of a derivative

Explanation

CVA risk is the mark-to-market volatility of the CVA valuation adjustment, driven by counterparty credit spreads and market risk factors affecting exposure. Default loss is covered by the counterparty credit risk (default) capital charge. Funding costs and settlement failure are separate risks.

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