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Options, Futures, and Other Derivatives

John C. Hull

Chapter 9

XVAs - all with Video Answers

Educators

Chapter Questions

Problem 1

Explain what CVA and DVA measure.

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01:13

Problem 2

If the market considers that the default probability for a bank has increased, what happens to its DVA? What happens to the income it reports?

Pragya Ahuja
Pragya Ahuja
Numerade Educator

Problem 3

"The impact of DVA on earnings volatility is generally greater than that of CVA." Explain this statement.

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02:33

Problem 4

Explain what MVA and FVA measure.

Surendra Kumar
Surendra Kumar
Numerade Educator

Problem 5

Explain the difference between the views of financial economists and most practitioners on how MVA and FVA should be calculated.

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01:26

Problem 6

Explain what KVA measures.

Ben Nicholson
Ben Nicholson
Numerade Educator

Problem 7

Explain the difference between the views of financial economists and most practitioners on how KVA should be calculated.

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Problem 8

Explain why FVA can be calculated for a transaction without considering the portfolio to which the transaction belongs, but that the same is not true of MVA.

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03:27

Problem 9

Suppose that a bank buys an option from a client. The option is uncollateralized and there are no other transactions outstanding with the client. The expected values of the option at the midpoint of years 1,2 , and 3 are 6,5, and 4 . The probability of the counterparty defaulting in each of the three years is $3 \%$. The probability of the bank defaulting in each of the three years is $2 \%$. Estimate the bank's CVA and DVA for the transaction. Assume no recovery in the event of a default and zero interest rates.

Robin Corrigan
Robin Corrigan
Numerade Educator
01:38

Problem 10

Explain how the "cure period" is used in the calculation of CVA.

Micah Hurewitz
Micah Hurewitz
Numerade Educator

Problem 11

A company is trying to decide between issuing debt and equity to fulfill a funding need. What in theory should happen to the return required by equity holders if it chooses (a) debt and (b) equity?

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Problem 12

Explain the meaning of "netting". Suppose no collateral is posted. Why does a netting agreement usually reduce credit risks to both sides? Under what circumstances does netting have no effect on credit risk?

Rashmi Sinha
Rashmi Sinha
Numerade Educator

Problem 13

The average funding cost for a company is $5 \%$ per annum when the risk-free rate is $3 \%$. The company is currently undertaking projects worth $$\$ 9$$ million. It plans to increase its size by undertaking $$\$ 1$$ million of risk-free projects. What would you expect to happen to its average funding cost?

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Problem 14

Suppose that, for a particular three-year derivative entered into by a bank, two outcomes, A and B, are equally likely. Under outcome A, the values of the derivative at the midpoint of the first, second, and third years are 3, 5, and 7, respectively. Under outcome B, the values of the derivative at the midpoints of the first, second, and third years are $-2,-4$, and -6 . The probability of the counterparty defaulting each year is $1 \%$ and the probability of the bank defaulting each year is $0.5 \%$. Calculate the bank's CVA and DVA. Assume that interest rates are zero, no collateral is posted, and there are no other transactions between the two parties.

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