It's Harder Than You Think: The New Reality for Managing Risk and Valuation of OTC Derivatives

October 2011
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It's Harder Than You Think: The New Reality for Managing Risk and Valuation of OTC Derivatives

At a glance

The changing landscape in over-the-counter (OTC) derivatives landscape is rocky. Smooth the way with an integrated response to the challenges. Here's how.

The changing landscape in the over-the-counter (OTC) derivatives market with respect to valuation, capital requirements, and counterparty and liquidity management poses significant challenges to many financial services institutions.

Addressing these areas is particularly challenging given the interconnected nature of these issues and the requirements for additional operational data not traditionally captured as part of valuation and risk management processes. Furthermore, in many cases there will be a need for significant infrastructure enhancements to support both the flow of information across the organization and the requirement to perform complex analyses on a frequent and timely basis.

An integrated response is critical to successfully address the competing challenges arising from the new regulatory, risk management, and market forces. Leading institutions have launched a number of initiatives to address risks relating to OTC derivatives, including:

  • Refining counterparty credit exposure and credit valuation adjustment (CVA) measurements to consider the potential future or expected exposure more completely within the derivatives portfolio.
  • Incorporating or further refining the impact of collateral on valuation, counterparty risk measurement, funding costs, and liquidity management.
  • Addressing changes to the market arising from evolving regulations, with a particular focus on regulatory capital and margin requirements for centrally cleared versus bilaterally settled OTC derivatives.