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Capturing initial margin in counterparty risk calculations

Author

Listed:
  • Moran, Lee
  • Wilkens, Sascha

Abstract

This paper compares a range of alternative approaches to incorporate Initial Margins (IMs) in the modelling of counterparty credit risk exposures. IMs have risen in importance following the rise of Central Counterparties to clear OTC derivatives and the recent legislation requiring bilateral margining for uncleared derivatives between financial counterparties. IMs have become an essential model component that drives exposure, associated regulatory capital requirements and valuation adjustments such as Credit Valuation Adjustment (CVA) and Margin Valuation Adjustment (MVA). The influence of the modelling choices is explored by means of typical derivatives portfolios. For the actual estimation of a path-dependent (‘stochastic’) IM through time the use of quantile regression is suggested as an econometrically reliable approximation. Banks’ internal counterparty risk models will likely exhibit a basis vis-à-vis the actual IM mechanisms in practice (for example, owing to different risk factor representations and/or calibrations). In this context, the paper suggests that a simplified representation in the form of a ‘dynamic IM’ can approximate most of the quantities of interest to a reasonable degree.

Suggested Citation

  • Moran, Lee & Wilkens, Sascha, 2017. "Capturing initial margin in counterparty risk calculations," Journal of Risk Management in Financial Institutions, Henry Stewart Publications, vol. 10(2), pages 118-129, April.
  • Handle: RePEc:aza:rmfi00:y:2017:v:10:i:2:p:118-129
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    Citations

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    Cited by:

    1. Lokman A. Abbas-Turki & Stéphane Crépey & Babacar Diallo, 2018. "Xva Principles, Nested Monte Carlo Strategies, And Gpu Optimizations," International Journal of Theoretical and Applied Finance (IJTAF), World Scientific Publishing Co. Pte. Ltd., vol. 21(06), pages 1-40, September.
    2. Váradi, Kata & Ladoniczki, Sára Kata, 2018. "Elszámolóházak alapbiztosítéki követelményeinek számítási módszertana [Numerical methodology in the basic insurance requirements of clearing houses]," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(7), pages 780-809.
    3. Ignacio Ruiz & Mariano Zeron, 2018. "Dynamic Initial Margin via Chebyshev Tensors," Papers 1808.08221, arXiv.org, revised Mar 2020.

    More about this item

    Keywords

    initial margin; clearing; bilateral margining; counterparty risk; internal model;
    All these keywords.

    JEL classification:

    • G2 - Financial Economics - - Financial Institutions and Services
    • E5 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit

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