Calculation of CVA on a Bond with G2++ Model

A. Léonis, T. Gomes, A. Lalanne, O. Kanouni and P. Oms

Basel II capital requirements did not take into account the potential mark-to-market losses, or Credit Valuation Adjustment (CVA) risk, associated with deterioration in the credit worthiness of a counterparty. In addition to the default risk capital requirements for counterparty credit risk, Basel III Agreement, scheduled to be introduced in 2019, adds a capital charge to cover CVA risk. For this reason, CVA calculation is getting crucial for banks. This paper presents a closed-form formula to compute CVA on a coupon-bearing bond. The evolution of interest rates, required to evaluate bonds forward value, is simulated by using a deterministically-shifted two-factor short rate stochastic model, known as G2++. Implementation of the CVA formula is also provided in R programming language.

DOI : https://doi.org/10.21102/gefj.2016.09.92.05