Cutting edge intro: Righting wrong-way risk

Wrong-way risk is often modelled via one-factor methods – which are easy to implement, but also limited. Some believe it is time to look more closely at the underlying structure of this exposure. Nazneen Sherif introduces this month’s technical articles

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Tightening their grip on banks, regulators have laid out specific guidelines for almost all aspects of pricing and risk management, such as the calculation of regulatory capital, credit valuation adjustment and its associated capital charge. Surprisingly, the modelling of wrong-way risk, the rather inconvenient dependence between exposure and credit quality of the counterparty, is still left to the skill and imagination of quants.

Wrong-way risk is a tough beast to tame. Its modelling inherently

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