Integrated Market Risk and Credit Risk for Capital Calculations and Counterparty Credit Risk
Nowhere is the intersection of market risk and credit risk more apparent than in counterparty credit risk. The value of traded instruments is affected by changes in the value of the underlying asset, as well as by the credit quality of the issuer of the instrument. The complex interplay between the two requires risk managers to be able to run simultaneous market and credit analyses, which is not possible when valuation and credit assessment are managed in two separate infrastructures. Kamakura Risk Manager (KRM), in conjunction with Kamakura Risk Information Services (KRIS), delivers a full suite of market valuation, credit analytics and scenario testing to provide a comprehensive view of both market risk and counterparty credit risk in a single solution.
Kamakura Market Valuation
Most risk management experts rely on valuation and stress testing in addition to more standard value at risk techniques. This makes accurate market valuation models even more critical as components of the risk solution. Kamakura’s KRM valuation delivers a comprehensive set of unique tools, including:
- A complete understanding of the distinction between “risk neutral” interest rates (used for valuation) and actual or “empirical” interest rates (used for net income simulation, value at risk, and stress testing).
- A wide variety of fixed income data input formats
- Fixed and floating rate instrument valuation, including Interest rate probability distributions for any rate level and time horizon and automated forward rate curve generation
- Arbitrary interest and principal payment schedules, multiple day count conventions, payment in advance or arrears, and customizable holiday tables
- Mathematical functions for floating rate indices, including lags and moving averages, minimum of two rates, maximum of two rates, etc.
- Multi-factor credit model capability
- Stress testing with respect to any risk factor
- Transaction-level processing
- Built in linear and non-linear regression
Comprehensive Credit Risk Measures are a Key Input
Kamakura’s industry leading credit risk analytics can perform key risk management tasks in one piece of software with one data base, one graphic user interface and one set of analytical libraries, including:
- Calculate default probabilities and expected losses for sovereigns and municipalities, corporations and other issuers of equity and debt securities
- Calculate credit-adjusted, option-adjusted VaR
- Calculate credit-adjusted, option-adjusted hedges for credit, market and interest rate risk
- Calculate credit-adjusted net income simulation
- Stress test all risk measures for changes in any risk factor, including credit risk
- Credit-adjusted transfer pricing
Added to the valuation models in KRM, KRIS offers industry leading quantitative credit risk measures that are updated daily and available via the Web or in conjunction with the Kamakura Risk Manager enterprise wide risk management suite. Kamakura utilizes the KRIS default and correlation service to track a global index of more than 38,000 public companies in 62 countries to produce the company’s monthly default probability reports; default predictions are based on a sophisticated combination of financial ratios, stock price history, and macro-economic factors.
Basel III Credit Metrics Included
KRM’s Analytics Engine delivers all of the necessary analytics to calculate regulatory capital under Basel III, including:
- Credit valuation adjustment (CVA)
- Incremental CVA
- Debt Valuation Adjustment (DVA),
- Funding Valuation Adjustment (FVA)
- Potential Future Exposure (PFE)
- Expected Exposure (EE)
- Wrong Way Risk
In addition to a new CVA framework, the looming Fundamental Review of the Trading Book deadlines require changes from VaR to Expected Shortfall. Changes in the measurement of market risk for traded instruments. The latest releases of the KRM fully complies by offering both Expected Shortfall and Stressed Expected Shortfall measures. KRM can also produce the required liquidity adjustments and diversification measures required by the new rules.
Kamakura’s Integrated Risk Solution
Kamakura Risk Manager (KRM) completely integrates credit portfolio management, market risk management, asset and liability management, Basel II and other capital allocation technologies, transfer pricing, and performance measurement. KRM uses a solid analytical foundation for valuation, pricing, and hedging of a wide range of equity securities, fixed income securities, foreign exchange contracts. KRM also delivers an unmatched list of derivatives and exotics.
In addition to the powerful KRM platform, Kamakura Risk Information Services (KRIS) provides extensive risk information on credit risk and interest rates. Credit risk information in KRIS includes default probabilities, default correlations, implied spreads and implied ratings for a wide range of counterparties. KRIS is seamlessly integrated into the KRM platform to fully incorporate the credit risk information into all KRM analyses.
Since 1990, Kamakura has worked with some of the largest financial institutions in the North America, Europe and Asia. Kamakura’s senior management team has more than 300 years’ experience as ALM and interest rate risk managers. Our risk experts have published hundreds of research papers and dozens of books on risk management topics. We have applied that expertise in our advisory work and embodied it in our software.