CVA loss

[shanlane]

Hello,

I am almost embarassed to ask this, but here it is. After the paper you sent me (thank you, by the way) and another reading of the Canabarro chapter, CVA makes a lot more sense. One thing I am having trouble understanding is what is actually meant by CVA loss. Is this just referring to the fact that if there were a CVA adjustment while pricing a product that some of the losses incurred could have been mitigated or is it something more complex? It seems like a loss due to default or a company's own credit deteriaration is a loss no matter how you look at it, but the text seems to use "CVA loss" to mean a lot of different things.

Thanks,
Shannon

 

[David Harper CFA FRM]

Hi Shannon,

Glad paper helps ... If we continue from ... http://forum.bionicturtle.com/threads/cva-adjustment.5331/#post-14795

Assume we are the yen receiver (i.e., compared to our counterparty, we have greater counterparty exposure, such that the CVA is negative to us ... our greater credit risk reduces the value of our position)
"Risk-free" value = $102
Mid-market value (i.e., includes hypothetical CVA of -2) value = $100
CVA adjustment = -3, such that net M2M value = $100 + (-3) CVA adjustment = $97

The position and CVA component are both priced (marked to market over time), so for example, the value to us can increase (which might tend to increase the counterparty risk, under "wrong way" risk it would increase by definition) something like:
Value of swap value position increases $100 + $8 = $108
But CVA component decreases by $1: -3 -1 = -4;
Updated M2M value, net of CVA adjustment = $104

The net position includes two components: a counterparty-risk-free value component +/- a counterparty (CVA) adjustment. Both component re-price over time.

I hope that helps,

 

[shanlane]

Thanks.

Shannon

 

[shanlane]

Hi David,

I am looking over a really good summary of how risk management is being used in Hedge funds after the crisis. One stat I read said that during the crisis, 2/3 of counterparty credit losses were dues to CVA losses and only 1/3 of losses were dues to actual defaults.

I just want to make sure I have this straight. A "CVA loss" is only a marked to market loss, so if these securities were held until maturity (and there were no more defaults) all of the CVA losses from that period would have been earned back (CVA profits??) as the outlook of the counterparties improved.

Is this correct?

Thanks!!

Shannon