Capital and funding
Banking operations are being rewired around XVA metrics, quantifying market incompleteness. Here Claudio Albanese, Simone Caenazzo and Stéphane Crépey focus on the cost of funding of variation margin and the cost of capital: that is, funding valuation adjustment (FVA) and capital valuation adjustment (KVA). Motivated by Basel Pillar 2, Solvency II and IFRS 4 Phase II, they propose a principled approach to accounting regulatory treatments for FVA and KVA, arguing the two are intertwined since economic capital is itself a source of funding
As explained in Albanese, Andersen & Iabichino (2015), credit valuation adjustment(CVA) and funding valuation adjustment (FVA) are adjustments to entry prices that flow into reserve capital, and they are meant to compensate shareholders for the systematic losses they incur due to counterparty defaults and funding costs. Common Equity Tier 1 Capital (CET1) is the difference between assets and liabilities minus reserve capital, and it plays the role of a further capital cushion aimed at absorbing
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