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How Flexible Modeling Can Help You Maximize Trading Profitability
By Christian Kahl PhD | February 25, 2016

In mid-February, FINCAD held a seminar exploring the difficulties firms encounter around meeting valuation requirements, and offering insight into how these challenges can be overcome with flexible modeling. Held in FINCAD’s new, state-of-the art London office, the event brought together a number of professionals from leading buy- and sell-side institutions.

I kicked off the seminar with a presentation on Prudent Valuation Optimization (PVO). Requirements related to prudent valuation were initially published by the European Banking Authority (EBA) in 2014 in its Regulatory Technical Standards (RTS) document. The document puts forth a methodology for calculating the additional valuation adjustments needed to determine the prudent value of fair valued positions.

In my presentation, I explained that it is possible to add greater stability to valuations of complex financial instrument types using effective modeling. Sophisticated PVO software solutions can help tremendously on this front by providing a robust modeling framework for generating efficient, accurate valuations of virtually any instrument, regardless of complexity.

FINCAD’s Richard Weeks, Quantitative Analyst, participated in the seminar as well with a presentation regarding the challenges financial institutions face when modeling the basis spread between LCH-CME quotes. He noted that being able to do this efficiently can provide a distinct pricing advantage. For this reason, many firms are adopting valuation and risk analytics solutions that afford a higher degree of modeling flexibility, including the ability to effectively configure assumptions. To demonstrate, Richard gave the example of how to model the LCH-CME basis in FINCAD’s F3 Platform. He showed how firms can improve OTC derivatives pricing precision, and thereby maximize profitability, using a flexible, multi-currency curves framework.

Also contributing to the LCH-CME discussion was Phil Hermon, Senior Director of OTC products at CME Group. Phil gave commentary on how over-the-counter (OTC) derivatives clearing impacts pricing.

Since 2009, there have been a number of new requirements placed on the OTC markets, including the need to clear through central counterparties (CCPs) and increased risk reporting and capital requirements. At one time such obligations may have been a deterrent, however having the right tools at your disposal can simplify compliance with regulations.

Access to accurate pricing information on OTC products can help you obtain more precise valuations of your positions, aiding you in making better informed trading decisions. Furthermore, risk analytics and valuation solutions that offer high-performance coverage for a full range of risk calculations such as credit value adjustments (CVA), debit value adjustments (DVA) and funding valuation adjustments (FVA) enable you to get a transparent view into your portfolio’s exposure in order to meet regulatory obligations and foster competitive advantage.  

The London-based event concluded with a discussion led by Pierre-Olivier Baudot, CEO of Baudot Capital Limited, on investing in the growing market of fine art and collectables as a way to diversify your portfolio. It’s worth noting that solutions like FINCAD’s F3 can be useful in generating accurate valuations of such alternative investments.

For more information check out our related blog post: The LCH-CME Basis and the Need for Multi-Curve Construction.

About the author
Christian Kahl PhD
Christian Kahl PhD
Director, Head of Client Services | FINCAD

Christian is responsible for all client facing quantitative topics and resources globally. In his role, he deals with a wide spectrum of financial industry clients from asset management, hedge funds and insurance companies to accounting firms and sell-side institutions. Additionally, Christian has extensive expertise dealing with regulatory and accounting requirements across all market segments.    

Before joining FINCAD in spring 2015, Christian was the deputy-head of Financial Engineering in the Equity Market and Commodity department of Commerzbank, where he worked for five years supporting various trading desks. Christian Kahl has 10 years experience as a quant in sell-side institutions implementing models in cross asset front office pricing libraries. His quantitative research is largely focused on stochastic volatility modelling and high performance computing.