A copula approach to credit valuation adjustment for swaps under wrong-way risk

Jakub Černý and Jiří Witzany

Journal of Credit Risk

Abstract: This paper deals with the credit valuation adjustment (CVA) of interest rate swap (IRS) contracts in the presence of an adverse dependence between the default time and interest rates: so-called wrong-way risk (WWR). It compares the upper Fréchet bound approach introduced in a 2013 paper by Umberto Cherubini with a new semi- analytical IRS–CVA formula that we are proposing as a modification of Cherubini’s approach. The approaches are compared via a numerical study, in which we find that our semianalytical formula (the modified approach) provides more precise IRS–CVA valuation results.

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