Computing and Stress Testing Counterparty Credit Risk Capital
Rosen D. and Saunders D. 2009, Counterparty Credit Risk (E. Canabarro, Editor), Risk Books, London, Chapter 11 pp. 245-292.
This chapter presents a practical example of computing and stress testing CCR capital and alpha in a realistic trading book. We discuss the methodological and computational challenges one faces when modeling CCR capital and when implementing a systematic approach for stress testing. Throughout the example, we use an efficient approach for computing alpha, introduced in Garcia Cespedes et. al (2007). The methodology fully leverages existing counterparty exposure simulations used for risk management and credit limits, and preserves the joint distribution of counterparty exposures. It further makes the nature of the dependence between market and credit risk more transparent and amenable for stress testing, an essential requirement both for internal capital management and regulatory purposes.