Confusion over CVA
Dealers are becoming more disciplined in pricing credit – a lesson learned the hard way after the collapse of Lehman Brothers. However, banks are taking a variety of approaches, and some participants believe certain firms are habitually underpricing credit. By Duncan Wood
Corporate treasurers suspect their bankers are taking advantage of the crisis to jack up their derivatives prices. Dealers complain their competitors are undercutting them to win business. In the weird world of post-crisis derivatives pricing, both camps may well be right.
The source of this uncertainty is credit value adjustment (CVA) – a component of the price that is intended to cover counterparty risk in a derivatives trade. Prior to mid-2007, CVA was either ignored by dealers or was such a
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