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JP Morgan deducted $401 million from trading income in 2020 to cover valuation adjustments (XVAs) linked to its derivatives portfolio – the most since the bank expanded its accounting framework to capture all of these in 2013.
In its annual filings, the New York-based bank said it lopped $337 million off principal transactions revenue for credit valuation adjustments (CVA) and $64 million for funding valuation adjustments (FVA), though this didn’t taken into account the effect of hedging
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Barclays quant proposes methodology for factoring hedging costs into derivatives valuations
Dealers make various adjustments to the fair value of derivatives contracts to account for the credit risk, funding costs and capital requirements associated with these transactions. But, somehow, the cost of hedging has so far escaped the attention of XVA desks.
While it is standard practice to set aside
ad hoc reserves to cover the cost of hedging, a formal mathematical formula for calculating these has been lacking. “Banks typically take transaction costs into account, but normally using just a heuristic approach,” says an XVA quant at a global bank.
Risk.net The slow corporate embrace of CSAs
Risk.net research finds 28 of 50 large companies now have CSAs – but has the trend run its course? Print this page
When Vodafone published its annual report in March last year, sharp-eyed investors may have spotted what looked like a red flag – a ballooning of the company’s short-term borrowing from €4.2 billion ($5.1 billion) in 2019 to €11.8 billion in 2020. Why had the telecoms giant loaded up on debt? And did it have anything to do with the Covid-19 lockdown that hit Europe just weeks before the report was filed?
In fact, it wasn’t a red flag at all – but there was a hidden connection to the pandemic.