DOCSLIB.ORG

Consolidated Policy on Valuation Adjustments Global Capital Markets

Total Page：16

File Type：pdf, Size：1020Kb

Download full-text PDF Read full-text
Consolidated Policy on Valuation Adjustments Global Capital Markets Global Consolidated Policy on Valuation Adjustments Consolidated Policy on Valuation Adjustments Global Capital Markets September 2008 Version Number 2.35 Dilan Abeyratne, Emilie Pons, William Lee, Scott Goswami, Jerry Shi Author(s) Release Date September lOth 2008 Page 1 of98 CONFIDENTIAL TREATMENT REQUESTED BY BARCLAYS LBEX-BARFID 0011765 Global Consolidated Policy on Valuation Adjustments Version Control ............................................................................................................................. 9 4.10.4 Updated Bid-Offer Delta: ABS Credit SpreadDelta................................................................ lO Commodities for YH. Bid offer delta and vega .................................................................................. 10 Updated Muni section ........................................................................................................................... 10 Updated Section 13 ............................................................................................................................... 10 Deleted Section 20 ................................................................................................................................ 10 Added EMG Bid offer and updated London rates for all traded migrated out oflens ....................... 10 Europe Rates update ............................................................................................................................. 10 Europe Rates update continue .............................................................................................................. 11 Updated 7.9.2 ........................................................................................................................................ 11 Release 7. 3 .1 ....................................................................................................................................... 11 1. Introduction ......................................................................................................................... 12 1.1. Background ................................................................................................................... 12 1.2. Scope ............................................................................................................................. 12 1.3. Valuation Adjustment Categories ................................................................................. 12 1.4. Exemptions .................................................................................................................... 12 1.5. Validation and Approval ............................................................................................... 13 2. GAAP Requirements .......................................................................................................... 14 2.1. Fair Value Measurement .............................................................................................. 14 2.2. Observable and Unobservable parameters .................................................................. 14 2.3. Technical References .................................................................................................... 15 3. Summary of Valuation Adjustments ................................................................................. 16 3.1. Model Valuation Adjustments ....................................................................................... 16 3 .1.1. Model: Unapproved model ................................................................................................. 16 3.1.2. Model: Barrier shift.. ........................................................................................................... 16 3.1.3. Model: Fit ............................................................................................................................ 16 3.1.4. Model: Approximation ........................................................................................................ 17 3.1.5. Model: Numerical Approximation ..................................................................................... 17 3.1.6. Model: Skew ....................................................................................................................... 18 3.1.7. Model: Calibration .............................................................................................................. 18 3.2. Liquidity (Concentration) Valuation Adjustments ........................................................ 18 3.3. Contingent Valuation Adjustments ............................................................................... 19 3.3.1. Contingent Deal .................................................................................................................. 19 3.3.2. Contingent Liability ............................................................................................................ 19 3.4. Bid-offer Valuation Adjustments ................................................................................... 19 3.5. Early Termination Valuation Adjustment ..................................................................... 20 3.5 .1. Non-contractual Early Termination Valuation Adjustment... ............................................ 20 3.5 .2. Contractual Early Termination Valuation Adjustment ...................................................... 20 3.6. Parameter Uncertainty Valuation Adjustment.............................................................. 20 3. 7. Counterparty Credit Risk Valuation Adjustment .......................................................... 20 3.8. Funding Cost Valuation Adjustment ............................................................................. 21 Valuation Adjustments by BPMO: Fixed Income (Global) ..................................................... 23 4. CD0...................................................................................................................................... 23 4.1. Model Unapproved ....................................................................................................... 23 4.1.1. Model Unapproved: ABS Correlation Portfolio CDO ....................................................... 23 4.2. Model Fit....................................................................................................................... 23 Page 2 of98 CONFIDENTIAL TREATMENT REQUESTED BY BARCLAYS LBEX-BARFID 00117 66 Global Consolidated Policy on Valuation Adjustments 4.2.1. Model Fit: Low Strike Base Correlation Extrapolation for Bespoke Portfolios ............... 23 4.2.2. Model Fit: Low Maturity Base Correlation Extrapolation for Bespoke Portfolios ........... 23 4.2.3. Model Fit: Principal Only CDO Tranche ........................................................................... 24 4.2.4. Model Fit: Super Senior CDO Tranche .............................................................................. 24 4.3. Model Approximation ................................................................................................... 25 4.3.1. Model Approximation: CD02 Proxy Mapping Reserve Methodology ............................. 25 4.3.2. Model Approximation: Approximate Booking .................................................................. 26 4.4. Model Numerical Approximation ................................................................................. 27 4.4.1. Model Numerical Approximation: Gamma Approximation to Conditional Loss Distribution ........................................................................................................................................... 27 4.5. Model Skew ................................................................................................................... 27 4.5.1. Model Skew: Interest Rate Skew in Fun0pt4 Gap Option Model .................................... 27 4.6. Model Calibration ......................................................................................................... 28 4.6.1. Model Calibration: LCDX Calibration ............................................................................... 28 4. 7. Liquidity ........................................................................................................................ 28 4.7.1. Liquidity: Document Basis ................................................................................................. 28 4.7.2. Liquidity: Loan CDS Bespoke Tranche Liquidity ............................................................. 28 4.8. Contingent Deal ............................................................................................................ 29 4.8.1. Contingent Deal: P&L Recognition of Principal Protected Notes (PPN) ......................... 29 4.9. Contingent Liability ...................................................................................................... 29 4.9.1. Contingent Liability: Substitution Reserve Account ......................................................... 29 4.9.2. Contingent Liability: Collateral Double Default Risk ....................................................... 29 4.9.3. Contingent Liability: Quanta Reserve ................................................................................ 30 4.9.4. Contingent Liability: Various ............................................................................................. 30 4.9.5. Contingent Liability: Index Swap Adjustment .................................................................. 30 4.9.6. Contingent
Load more

Recommended publications
  • The TIPS-Treasury Bond Puzzle
    The TIPS-Treasury Bond Puzzle Matthias Fleckenstein, Francis A. Longstaff and Hanno Lustig The Journal of Finance, October 2014 Presented By: Rafael A. Porsani The TIPS-Treasury Bond Puzzle 1 / 55 Introduction The TIPS-Treasury Bond Puzzle 2 / 55 Introduction (1) Treasury bond and the Treasury Inflation-Protected Securities (TIPS) markets: two of the largest and most actively traded fixed-income markets in the world. Find that there is persistent mispricing on a massive scale across them. Treasury bonds are consistently overpriced relative to TIPS. Price of a Treasury bond can exceed that of an inflation-swapped TIPS issue exactly matching the cash flows of the Treasury bond by more than $20 per $100 notional amount. One of the largest examples of arbitrage ever documented. The TIPS-Treasury Bond Puzzle 3 / 55 Introduction (2) Use TIPS plus inflation swaps to create synthetic Treasury bond. Price differences between the synthetic Treasury bond and the nominal Treasury bond: arbitrage opportunities. Average size of the mispricing: 54.5 basis points, but can exceed 200 basis points for some pairs. I The average size of this mispricing is orders of magnitude larger than transaction costs. The TIPS-Treasury Bond Puzzle 4 / 55 Introduction (3) What drives the mispricing? Slow-moving capital may help explain why mispricing persists. Is TIPS-Treasury mispricing related to changes in capital available to hedge funds? Answer: Yes. Mispricing gets smaller as more capital gets to the hedge fund sector. The TIPS-Treasury Bond Puzzle 5 / 55 Introduction (4) Also find that: Correlation in arbitrage strategies: size of TIPS-Treasury arbitrage is correlated with arbitrage mispricing in other markets.
    [Show full text]
  • Here We Go Again
    2015, 2016 MDDC News Organization of the Year! Celebrating 161 years of service! Vol. 163, No. 3 • 50¢ SINCE 1855 July 13 - July 19, 2017 TODAY’S GAS Here we go again . PRICE Rockville political differences rise to the surface in routine commission appointment $2.28 per gallon Last Week pointee to the City’s Historic District the three members of “Team him from serving on the HDC. $2.26 per gallon By Neal Earley @neal_earley Commission turned into a heated de- Rockville,” a Rockville political- The HDC is responsible for re- bate highlighting the City’s main po- block made up of Council members viewing applications for modification A month ago ROCKVILLE – In most jurisdic- litical division. Julie Palakovich Carr, Mark Pierzcha- to the exteriors of historic buildings, $2.36 per gallon tions, board and commission appoint- Mayor Bridget Donnell Newton la and Virginia Onley who ran on the as well as recommending boundaries A year ago ments are usually toward the bottom called the City Council’s rejection of same platform with mayoral candi- for the City’s historic districts. If ap- $2.28 per gallon of the list in terms of public interest her pick for Historic District Commis- date Sima Osdoby and city council proved Giammo, would have re- and controversy -- but not in sion – former three-term Rockville candidate Clark Reed. placed Matthew Goguen, whose term AVERAGE PRICE PER GALLON OF Rockville. UNLEADED REGULAR GAS IN Mayor Larry Giammo – political. While Onley and Palakovich expired in May. MARYLAND/D.C. METRO AREA For many municipalities, may- “I find it absolutely disappoint- Carr said they opposed Giammo’s ap- Giammo previously endorsed ACCORDING TO AAA oral appointments are a formality of- ing that politics has entered into the pointment based on his lack of qualifi- Newton in her campaign against ten given rubberstamped approval by boards and commission nomination cations, Giammo said it was his polit- INSIDE the city council, but in Rockville what process once again,” Newton said.
    [Show full text]
  • Interest Rate Options
    Interest Rate Options Saurav Sen April 2001 Contents 1. Caps and Floors 2 1.1. Defintions . 2 1.2. Plain Vanilla Caps . 2 1.2.1. Caplets . 3 1.2.2. Caps . 4 1.2.3. Bootstrapping the Forward Volatility Curve . 4 1.2.4. Caplet as a Put Option on a Zero-Coupon Bond . 5 1.2.5. Hedging Caps . 6 1.3. Floors . 7 1.3.1. Pricing and Hedging . 7 1.3.2. Put-Call Parity . 7 1.3.3. At-the-money (ATM) Caps and Floors . 7 1.4. Digital Caps . 8 1.4.1. Pricing . 8 1.4.2. Hedging . 8 1.5. Other Exotic Caps and Floors . 9 1.5.1. Knock-In Caps . 9 1.5.2. LIBOR Reset Caps . 9 1.5.3. Auto Caps . 9 1.5.4. Chooser Caps . 9 1.5.5. CMS Caps and Floors . 9 2. Swap Options 10 2.1. Swaps: A Brief Review of Essentials . 10 2.2. Swaptions . 11 2.2.1. Definitions . 11 2.2.2. Payoff Structure . 11 2.2.3. Pricing . 12 2.2.4. Put-Call Parity and Moneyness for Swaptions . 13 2.2.5. Hedging . 13 2.3. Constant Maturity Swaps . 13 2.3.1. Definition . 13 2.3.2. Pricing . 14 1 2.3.3. Approximate CMS Convexity Correction . 14 2.3.4. Pricing (continued) . 15 2.3.5. CMS Summary . 15 2.4. Other Swap Options . 16 2.4.1. LIBOR in Arrears Swaps . 16 2.4.2. Bermudan Swaptions . 16 2.4.3. Hybrid Structures . 17 Appendix: The Black Model 17 A.1.
    [Show full text]
  • University of Illinois at Urbana-Champaign Department of Mathematics
    University of Illinois at Urbana-Champaign Department of Mathematics ASRM 410 Investments and Financial Markets Fall 2018 Chapter 5 Option Greeks and Risk Management by Alfred Chong Learning Objectives: 5.1 Option Greeks: Black-Scholes valuation formula at time t, observed values, model inputs, option characteristics, option Greeks, partial derivatives, sensitivity, change infinitesimally, Delta, Gamma, theta, Vega, rho, Psi, option Greek of portfolio, absolute change, option elasticity, percentage change, option elasticity of portfolio. 5.2 Applications of Option Greeks: risk management via hedging, immunization, adverse market changes, delta-neutrality, delta-hedging, local, re-balance, from- time-to-time, holding profit, delta-hedging, first order, prudent, delta-gamma- hedging, gamma-neutrality, option value approximation, observed values change inevitably, Taylor series expansion, second order approximation, delta-gamma- theta approximation, delta approximation, delta-gamma approximation. Further Exercises: SOA Advanced Derivatives Samples Question 9. 1 5.1 Option Greeks 5.1.1 Consider a continuous-time setting t ≥ 0. Assume that the Black-Scholes framework holds as in 4.2.2{4.2.4. 5.1.2 The time-0 Black-Scholes European call and put option valuation formula in 4.2.9 and 4.2.10 can be generalized to those at time t: −δ(T −t) −r(T −t) C (t; S; δ; r; σ; K; T ) = Se N (d1) − Ke N (d2) P = Ft;T N (d1) − PVt;T (K) N (d2); −r(T −t) −δ(T −t) P (t; S; δ; r; σ; K; T ) = Ke N (−d2) − Se N (−d1) P = PVt;T (K) N (−d2) − Ft;T N (−d1) ; where d1 and d2 are given by S 1 2 ln K + r − δ + 2 σ (T − t) d1 = p ; σ T − t S 1 2 p ln K + r − δ − 2 σ (T − t) d2 = p = d1 − σ T − t: σ T − t 5.1.3 The option value V is a function of observed values, t and S, model inputs, δ, r, and σ, as well as option characteristics, K and T .
    [Show full text]
  • Credit-Market Sentiment and the Business Cycle
    Credit-Market Sentiment and the Business Cycle David L´opez-Salido∗ Jeremy C. Stein† Egon Zakrajˇsek‡ First draft: April 2015 This draft: December 2016 Abstract Using U.S. data from 1929 to 2015, we show that elevated credit-market sentiment in year t−2 is associated with a decline in economic activity in years t and t + 1. Underlying this result is the existence of predictable mean reversion in credit-market conditions. When credit risk is aggressively priced, spreads subsequently widen. The timing of this widening is, in turn, closely tied to the onset of a contraction in economic activity. Exploring the mechanism, we find that buoyant credit-market sentiment in year t−2 also forecasts a change in the composition of exter- nal finance: Net debt issuance falls in year t, while net equity issuance increases, consistent with the reversal in credit-market conditions leading to an inward shift in credit supply. Unlike much of the current literature on the role of financial frictions in macroeconomics, this paper suggests that investor sentiment in credit markets can be an important driver of economic fluctuations. JEL Classification: E32, E44, G12 Keywords: credit-market sentiment; financial stability; business cycles We are grateful to Olivier Blanchard, Claudia Buch, Bill English, Robin Greenwood, Sam Hanson, Oscar` Jord`a, Larry Katz, Arvind Krishnamurthy, H´el`ene Rey, Andrei Shleifer, the referees, and seminar participants at numerous institutions for helpful comments. Miguel Acosta, Ibraheem Catovic, Gregory Cohen, George Gu, Shaily Patel, and Rebecca Zhang provided outstanding research assistance. The views expressed in this paper are solely the responsibility of the authors and should not be interpreted as reflecting the views of the Board of Governors of the Federal Reserve System or of anyone else associated with the Federal Reserve System.
    [Show full text]
  • How Options Implied Probabilities Are Calculated
    No content left No content right of this line of this line How Options Implied Probabilities Are Calculated The implied probability distribution is an approximate risk-neutral distribution derived from traded option prices using an interpolated volatility surface. In a risk-neutral world (i.e., where we are not more adverse to losing money than eager to gain it), the fair price for exposure to a given event is the payoff if that event occurs, times the probability of it occurring. Worked in reverse, the probability of an outcome is the cost of exposure Place content to the outcome divided by its payoff. Place content below this line below this line In the options market, we can buy exposure to a specific range of stock price outcomes with a strategy know as a butterfly spread (long 1 low strike call, short 2 higher strikes calls, and long 1 call at an even higher strike). The probability of the stock ending in that range is then the cost of the butterfly, divided by the payout if the stock is in the range. Building a Butterfly: Max payoff = …add 2 …then Buy $5 at $55 Buy 1 50 short 55 call 1 60 call calls Min payoff = $0 outside of $50 - $60 50 55 60 To find a smooth distribution, we price a series of theoretical call options expiring on a single date at various strikes using an implied volatility surface interpolated from traded option prices, and with these calls price a series of very tight overlapping butterfly spreads. Dividing the costs of these trades by their payoffs, and adjusting for the time value of money, yields the future probability distribution of the stock as priced by the options market.
    [Show full text]
  • Master Thesis the Use of Interest Rate Derivatives and Firm Market Value an Empirical Study on European and Russian Non-Financial Firms
    Master Thesis The use of Interest Rate Derivatives and Firm Market Value An empirical study on European and Russian non-financial firms Tilburg, October 5, 2014 Mark van Dijck, 937367 Tilburg University, Finance department Supervisor: Drs. J.H. Gieskens AC CCM QT Master Thesis The use of Interest Rate Derivatives and Firm Market Value An empirical study on European and Russian non-financial firms Tilburg, October 5, 2014 Mark van Dijck, 937367 Supervisor: Drs. J.H. Gieskens AC CCM QT 2 Preface In the winter of 2010 I found myself in the heart of a company where the credit crisis took place at that moment. During a treasury internship for Heijmans NV in Rosmalen, I experienced why it is sometimes unescapable to use interest rate derivatives. Due to difficult financial times, banks strengthen their requirements and the treasury department had to use different mechanism including derivatives to restructure their loans to the appropriate level. It was a fascinating time. One year later I wrote a bachelor thesis about risk management within energy trading for consultancy firm Tensor. Interested in treasury and risk management I have always wanted to finish my finance study period in this field. During the master thesis period I started to work as junior commodity trader at Kühne & Heitz. I want to thank Kühne & Heitz for the opportunity to work in the trading environment and to learn what the use of derivatives is all about. A word of gratitude to my supervisor Drs. J.H. Gieskens for his quick reply, well experienced feedback that kept me sharp to different levels of the subject, and his availability even in the late hours after I finished work.
    [Show full text]
  • DERIVATIVE and SECURITY Winter 2009 VALUATION NEWS
    DERIVATIVE AND SECURITY Winter 2009 VALUATION NEWS The bend in the road is not the end of the road unless you refuse to take the turn. - Anon Industry Update Trends in Hedge Fund Administration Also Featured Smaller, emerging, or startup fund managers have found that the discovery of so In This Issue many Ponzi schemes in the industry was a bigger hit to business than anything that has happened in the capital markets. These funds are finding that outsourcing, particularly back office activities, is the only real solution in order Valuation Challenges to establish credibility. This trend has been prevalent in Europe where even large Pricing illiquid securities and funds have independent administrators; in the US, traditionally, funds were self alternatives to stale broker quotes administered, but this is now changing as it is nearly impossible to raise capital and counterparty marks unless there are qualified and reputable service providers “looking over your .................................................... 02 shoulder”. Transparency and disclosure are key for funds to raise capital in this market environment, which includes providing investors detailed written procedures on operations and related risk mitigation. One of the primary areas investors are Regulatory Announcements focusing on is how the administrator values the fund’s portfolios, even though Are CCPs the answer to the the valuation of the fund is ultimately the responsibility of the fund and not the problem? administrator. ................................................... 04 Administrators have improved their valuation capabilities in the past year, but the issue of simply taking the manager’s price where it is most imperative to independently determine a valuation is still, particularly in the US, a hot button for the industry.
    [Show full text]
  • Ice Crude Oil
    ICE CRUDE OIL Intercontinental Exchange® (ICE®) became a center for global petroleum risk management and trading with its acquisition of the International Petroleum Exchange® (IPE®) in June 2001, which is today known as ICE Futures Europe®. IPE was established in 1980 in response to the immense volatility that resulted from the oil price shocks of the 1970s. As IPE’s short-term physical markets evolved and the need to hedge emerged, the exchange offered its first contract, Gas Oil futures. In June 1988, the exchange successfully launched the Brent Crude futures contract. Today, ICE’s FSA-regulated energy futures exchange conducts nearly half the world’s trade in crude oil futures. Along with the benchmark Brent crude oil, West Texas Intermediate (WTI) crude oil and gasoil futures contracts, ICE Futures Europe also offers a full range of futures and options contracts on emissions, U.K. natural gas, U.K power and coal. THE BRENT CRUDE MARKET Brent has served as a leading global benchmark for Atlantic Oseberg-Ekofisk family of North Sea crude oils, each of which Basin crude oils in general, and low-sulfur (“sweet”) crude has a separate delivery point. Many of the crude oils traded oils in particular, since the commercialization of the U.K. and as a basis to Brent actually are traded as a basis to Dated Norwegian sectors of the North Sea in the 1970s. These crude Brent, a cargo loading within the next 10-21 days (23 days on oils include most grades produced from Nigeria and Angola, a Friday). In a circular turn, the active cash swap market for as well as U.S.
    [Show full text]
  • View Annual Report
    ANNUAL REPORT MetLife, Inc. 2013 Chairman’s Letter To my fellow shareholders: When I became CEO in May of 2011, my mandate was clear: Improve the profitability and risk profile of the business. MetLife was the largest life insurer in the United States with a great brand and a nearly 145-year history of keeping its promises to policyholders, but we had taken on too much risk in certain parts of our business and our profitability was in the middle of the pack relative to industry peers. The first order of business for the executive group in 2011 was to develop a strategy to achieve our goal. It is not easy to turn a ship as large as MetLife, especially in an industry where profits emerge slowly over time. The strategy we launched in 2012 was not a one- or two-year strategy. It was a five-year strategy to raise our return on equity, reduce our cost of equity, and return capital to shareholders. Even though we have faced both economic and regulatory headwinds along the way, I am pleased to report that we are ahead of schedule on our plan to increase the profitability of MetLife’s business while also decreasing its level of risk. A Very Good Year Our progress was clearly evident in 2013. Operating earnings increased 11% over the prior year, exceeding our plan.1 Premiums, fees and other revenues increased 2% on a reported basis and 5% on a constant currency basis – solid top-line growth in light of our efforts to improve MetLife’s risk profile.
    [Show full text]
  • Tax Treatment of Derivatives
    United States Viva Hammer* Tax Treatment of Derivatives 1. Introduction instruments, as well as principles of general applicability. Often, the nature of the derivative instrument will dictate The US federal income taxation of derivative instruments whether it is taxed as a capital asset or an ordinary asset is determined under numerous tax rules set forth in the US (see discussion of section 1256 contracts, below). In other tax code, the regulations thereunder (and supplemented instances, the nature of the taxpayer will dictate whether it by various forms of published and unpublished guidance is taxed as a capital asset or an ordinary asset (see discus- from the US tax authorities and by the case law).1 These tax sion of dealers versus traders, below). rules dictate the US federal income taxation of derivative instruments without regard to applicable accounting rules. Generally, the starting point will be to determine whether the instrument is a “capital asset” or an “ordinary asset” The tax rules applicable to derivative instruments have in the hands of the taxpayer. Section 1221 defines “capital developed over time in piecemeal fashion. There are no assets” by exclusion – unless an asset falls within one of general principles governing the taxation of derivatives eight enumerated exceptions, it is viewed as a capital asset. in the United States. Every transaction must be examined Exceptions to capital asset treatment relevant to taxpayers in light of these piecemeal rules. Key considerations for transacting in derivative instruments include the excep- issuers and holders of derivative instruments under US tions for (1) hedging transactions3 and (2) “commodities tax principles will include the character of income, gain, derivative financial instruments” held by a “commodities loss and deduction related to the instrument (ordinary derivatives dealer”.4 vs.
    [Show full text]
  • Calls, Puts and Select Alls
    CIMA P3 SECTION D – MANAGING FINANCIAL RISK THE PUTS, THE CALLS AND THE DREADED ‘SELECT ALLs’ Example long form to OT approach Here is my favourite long form question on Interest rate risk management: Assume you are the Treasurer of AB, a large engineering company, and that it is now May 20X4. You have forecast that the company will need to borrow £2 million in September 20X4 for 6 months. The need for finance will arise because the company has extended its credit terms to selected customers over the summer period. The company’s bank currently charges customers such as AB plc 7.5% per annum interest for short-term unsecured borrowing. However, you believe interest rates will rise by at least 1.5 percentage points over the next 6 months. You are considering using one of four alternative methods to hedge the risk: (i) A traded interest rate option (cap only); or (ii) A traded interest rate option (cap and floor); or (iii) Forward rate agreements; or (iv) Interest rate futures; or You can purchase an interest rate cap at 93.00 for the duration of the loan to be guaranteed. You would have to pay a premium of 0.2% of the amount of the loan. For (ii) as part of the arrangement, the company can buy a traded floor at 94.00. Required: Discuss the features of using each of the four alternative methods of hedging the interest rate risk, apply to AB and advise on how each might be useful to AB, taking all relevant and known information into account.
    [Show full text]