Wrong-way risk done right

Jacky Lee and Luca Capriotti present an arbitrage-free valuation method for counterparty exposure of credit derivates portfolios.

Wrong way sign

One of the more pressing challenges facing today’s securities dealers is to account reliably, and risk-manage effectively, the various valuation adjustments (XVA) arising from counterparty risk, funding and other capital charges. This is especially challenging for credit derivatives portfolios as the accurate calculation of counterparty exposure requires modelling both default and spread correlations in a consistent framework to capture the effects of so-called wrong-way risk (WWR). In the

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