Liability-side pricing of swaps
Uncollateralised swaps hedged back-to-back with central counterparty swaps are being used to introduce the funding valuation adjustment (FVA). The open IR01 from FVA, however, is a sure sign of risk not being fully hedged, a theoretical no-arbitrage pricing concern, and a magnet to market risk capital. Wujiang Lou introduces a fix and a Monte Carlo simulation with regression scheme to compute the recursive credit valuation adjustment and FVA
A common theme when introducing the funding valuation adjustment (FVA) is to consider an uncollateralised customer swap back-to-back with a fully collateralised or central counterparty (CCP) cleared swap. The CCP swap is of the exact terms and notional as the customer swap, so that the net economics would be a loan linked to swap mark-to-market. A bank, for instance, has to post cash or cash-like
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