The Recalibration Conundrum: Hedging Valuation Adjustment for Callable Claims

Cyril Bénézet (), Stéphane Crépey () and Dounia Essaket
Additional contact information
Cyril Bénézet: LaMME - Laboratoire de Mathématiques et Modélisation d'Evry - ENSIIE - Ecole Nationale Supérieure d'Informatique pour l'Industrie et l'Entreprise - UEVE - Université d'Évry-Val-d'Essonne - Université Paris-Saclay - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, ENSIIE - Ecole Nationale Supérieure d'Informatique pour l'Industrie et l'Entreprise
Stéphane Crépey: LPSM (UMR_8001) - Laboratoire de Probabilités, Statistique et Modélisation - SU - Sorbonne Université - CNRS - Centre National de la Recherche Scientifique - UPCité - Université Paris Cité, UPCité - Université Paris Cité
Dounia Essaket: LPSM (UMR_8001) - Laboratoire de Probabilités, Statistique et Modélisation - SU - Sorbonne Université - CNRS - Centre National de la Recherche Scientifique - UPCité - Université Paris Cité, UPCité - Université Paris Cité

Post-Print from HAL

Abstract: The dynamic hedging theory only makes sense in the setup of one given model, whereas the practice of dynamic hedging is just the opposite, with models fleeing after the data through daily recalibration. This is quite of a quantitative finance paradox. In this paper we revisit Burnett (2021) & Burnett and Williams (2021)'s notion of hedging valuation adjustment (HVA), originally intended to deal with dynamic hedging frictions, in the direction of recalibration and model risks. Specifically, we extend to callable assets the HVA model risk approach of Bénézet and Crépey (2024). The classical way to deal with model risk is to reserve the differences between the valuations in reference models and in the local models used by traders. However, while traders' prices are thus corrected, their hedging strategies and their exercise decisions are still wrong, which necessitates a risk-adjusted reserve. We illustrate our approach on a stylized callable range accrual representative of huge amounts of structured products on the market. We show that a model risk reserve adjusted for the risk of wrong exercise decisions may largely exceed a basic reserve only accounting for valuation differences.

Keywords: Pricing models; Cross Valuation Adjustments XVAs; Callable assets; Model risk; Model calibration; Early Exercise (search for similar items in EconPapers)
Date: 2026-01-20
Note: View the original document on HAL open archive server: https://hal.science/hal-04057045v3
References: Add references at CitEc
Citations:

Published in International Journal of Theoretical and Applied Finance, 2026, ⟨10.1142/S0219024925500220⟩

Downloads: (external link)
https://hal.science/hal-04057045v3/document (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:hal:journl:hal-04057045

DOI: 10.1142/S0219024925500220

Access Statistics for this paper

More papers in Post-Print from HAL
Bibliographic data for series maintained by CCSD ().