Pricing

Chris Kenyon

Financial regulations are designed to change behaviour. They change what is permitted: in the US, proprietary trading is forbidden for banks and standard swaps must now be cleared. They change financial incentives – ie, prices and costs. Prices change market sizes. Costs change market participants, incentivising internal reorganisation and decisions on market entry or exit. If regulations did not change prices, costs and constraints, then they would be pointless.

This chapter will consider the effect of regulations on pricing. Regulations typically affect capital and funding, and fit into pricing as part of valuation adjustments (XVA) (Kenyon and Green, 2016a; Green, 2015; Lichters et al., 2015), see Table 17.1. We start by considering the effect of regulations on the fundamentals of quantitative finance, before covering the XVA machinery for credit, funding and capital costs. Following this look at pricing regulations, we examine consequences in the market and mitigants to regulatory costs. We give examples of secondary effects of regulatory costs: the effect of capital relief being priced into credit default swap (CDS) spreads; and how XVA costs move the exercise boundary for

To continue reading...

You need to sign in to use this feature. If you don’t have a Risk.net account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an indvidual account here: