An introduction to rating triggers for collateral-inclusive XVA in an ICTMC framework

2022/07/08 by Kevin Kamm, Kamm, Kevin
Business, Management and Accounting · Economics, Econometrics and Finance · #Computational Finance (q-fin.CP) #Credit Risk and Financial Regulations #FOS: Economics and business #Financial Distress and Bankruptcy Prediction #Private Equity and Venture Capital #Risk Management (q-fin.RM)

paper · pdf · doi:10.48550/arxiv.2207.03883

openalex publication_date 2022/07/08 · openalex created_date 2022/07/13 · openalex updated_date 2026/07/28

Abstract

In this paper, we model the rating process of an entity as a piecewise homogeneous continuous time Markov chain. We focus specifically on calibrating the model to both historical data (rating transition matrices) and market data (CDS quotes), relying on a simple change of measure to switch from the historical probability to the risk-neutral one. We overcome some of the imperfections of the data by proposing a novel calibration procedure, which leads to an improvement of the entire scheme. We apply our model to compute bilateral credit and debit valuation adjustments of a netting set under a CSA with thresholds depending on ratings of the two parties.

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