Derivatives Risks as Costs in a One-Period Network Model

TL;DR

This paper introduces a comprehensive one-period XVA model that integrates bilateral and centrally cleared trading, providing explicit formulas and applications for stress testing and portfolio optimization within financial networks.

Contribution

It offers a unified framework with explicit formulas for derivatives risk costs, enabling practical stress testing and portfolio management in interconnected financial systems.

Findings

Explicit formulas for derivatives risk costs in the model

Application to stress testing financial networks

Optimization strategies for defaulted clearing members

Abstract

We present a one-period XVA model encompassing bilateral and centrally cleared trading in a unified framework with explicit formulas for most quantities at hand. We illustrate possible uses of this framework for running stress test exercises on a financial network from a clearing member's perspective or for optimizing the porting of the portfolio of a defaulted clearing member.