Arbitrage-Free XVA

Maxim Bichuch, Agostino Capponi and Stephan Sturm

Papers from arXiv.org

Abstract: We develop a framework for computing the total valuation adjustment (XVA) of a European claim accounting for funding costs, counterparty credit risk, and collateralization. Based on no-arbitrage arguments, we derive backward stochastic differential equations (BSDEs) associated with the replicating portfolios of long and short positions in the claim. This leads to the definition of buyer's and seller's XVA, which in turn identify a no-arbitrage interval. In the case that borrowing and lending rates coincide, we provide a fully explicit expression for the unique XVA, expressed as a percentage of the price of the traded claim, and for the corresponding replication strategies. In the general case of asymmetric funding, repo and collateral rates, we study the semilinear partial differential equations (PDE) characterizing buyer's and seller's XVA and show the existence of a unique classical solution to it. To illustrate our results, we conduct a numerical study demonstrating how funding costs, repo rates, and counterparty risk contribute to determine the total valuation adjustment.

Date: 2016-08
References: View references in EconPapers View complete reference list from CitEc
Citations:

Published in Math. Finance 28:2 (2018), 582-620

Downloads: (external link)
http://arxiv.org/pdf/1608.02690 Latest version (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:arx:papers:1608.02690

Access Statistics for this paper

More papers in Papers from arXiv.org
Bibliographic data for series maintained by arXiv administrators ().