XVA

XVA (Valuation Adjustments) is a collective term that refers to a series of adjustments made to the valuation of derivatives and other financial instruments to account for various risks and costs. The most common components include Credit Valuation Adjustment (CVA), Funding Valuation Adjustment (FVA), and Collateral Valuation Adjustment (ColVA). These adjustments help financial institutions more accurately assess the fair value of derivatives by considering counterparty risk, funding costs, and the cost of collateral.

Example

A bank trading interest rate swaps applies an XVA to adjust the fair value of the contracts, accounting for the potential risk that a counterparty may default and the funding costs associated with the transaction.

Key points

• A set of adjustments to derivative valuations for risks like credit, funding, and collateral.

• CVA accounts for counterparty credit risk, while FVA considers funding costs.

• Helps financial institutions assess the fair value of derivatives more accurately.

Quick Answers to Curious Questions

Why are XVA adjustments important in financial markets?

They provide a more accurate valuation of derivatives by accounting for counterparty risk, funding costs, and other factors that impact the true cost of the transaction.

What are the key components of XVA?

The main components include Credit Valuation Adjustment (CVA), Funding Valuation Adjustment (FVA), and Collateral Valuation Adjustment (ColVA).

How does XVA affect the pricing of derivatives?

XVA adjustments increase or decrease the fair value of derivatives by factoring in risks such as counterparty default and the cost of funding the position.