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XVAs denote various counterparty risk related valuation adjustments that are applied to financial derivatives since the 2007--09 crisis. We root a cost-of-capital XVA strategy in a balance sheet perspective which is key in identifying the economic meaning of the XVA terms. Our approach is first detailed in a static setup that is solved explicitly. It is then plugged in the dynamic and trade incremental context of a r…
In the aftermath of the financial crisis, supervisory authorities have considerably altered the mode of operation of financial stress testing. Despite these efforts, significant concerns and extensive criticism have been raised by market participants regarding the considered unrealistic methodological assumptions and simplifications. Current stress testing methodologies attempt to simulate the risks underlying a fina…
This paper reviews the economic and theoretical foundations of insolvency risk measurement and capital adequacy rules. The proposed new measure of insolvency risk is constructed by disentangling assets, debt and equity at the micro-prudential firm level. This new risk index is the Firm Insolvency Risk Index (FIRI) which is symmetrical, proportional and scale invariant. We demonstrate that the balance sheet can be sho…
Systemic liquidity risk, defined by the IMF as "the risk of simultaneous liquidity difficulties at multiple financial institutions", is a key topic in macroprudential policy and financial stress analysis. Specialized models to simulate funding liquidity risk and contagion are available but they require not only banks' bilateral exposures data but also balance sheet data with sufficient granularity, which are hardly a…
Current post-trade clearing systems rely almost exclusively on cash or cash-like collateral, leaving vast reserves of short-term liquidity embedded in trade credit outside formal settlement infrastructures. A key barrier to integrating this liquidity is the near-universal dependence of clearing services on novation, which imposes institutional overhead that restricts accessibility and limits the range of obligations …
In this paper we develop structural first passage models (AT1P and SBTV) with time-varying volatility and characterized by high tractability, moving from the original work of Brigo and Tarenghi (2004, 2005) [19] [20] and Brigo and Morini (2006)[15]. The models can be calibrated exactly to credit spreads using efficient closed-form formulas for default probabilities. Default events are caused by the value of the firm …
This paper investigates the evolving link between cryptocurrency and equity markets in the context of the recent wave of corporate Bitcoin (BTC) treasury strategies. We assemble a dataset of 39 publicly listed firms holding BTC, from their first acquisition through April 2025. Using daily logarithmic returns, we first document significant positive co-movements via Pearson correlations and single factor model regressi…
This paper provides a mathematical framework based on the principle of invariance to classify institutions in two paradigms according to the way in which credit, debit and funding adjustments are calculated: accounting and management perspectives. This conceptual classification helps to answer questions such as: In which paradigm each institution sits (point of situation)? Where is the market consensus and regulation…
The credit rating is an evaluation of a company's credit risk that values the ability to pay back the debt and predict the likelihood of the debtor defaulting. There are various features influencing credit rating. Therefore, it is essential to select substantive features to explore the main reason for credit rating change. To address this issue, this paper exploited Principal Component Analysis and Factor Analysis as…
We develop a continuous-time structural dynamic model to determine the exact insolvency regions of banks arising from the non-linear interaction between liquidity and credit risk. While existing literature predominantly treats these risks in isolation or via reduced-form specifications, we explicitly model the feedback loop where funding shocks and regulatory constraints force balance-sheet adjustments that can lead …
Bilateral CVA as currently implement has the counterintuitive effect of profiting from one's own widening CDS spreads, i.e. increased risk of default, in practice. The unified picture of CVA and liquidity introduced by Morini & Prampolini 2010 has contributed to understanding this. However, there are two significant omissions for practical implementation that come from the same source, i.e. positions not booked in us…
Covered interest parity verges on a physical law in international finance. And yet it has been systematically violated since the Great Financial Crisis. Especially puzzling have been the violations since 2014, even once banks had strengthened their balance sheets and regained easy access to funding. We offer a framework to think about these violations, stressing the combination of hedging demand and tighter limits to…
We introduce a simple model of depositor runs to capture run risks at financial institutions based on their balance sheet composition. Specifically, we consider a reduced potential to raise capital from liquidity buffers under stress, during a stylized run driven by depositor scrutiny and further fueled by fire sales in response to withdrawals. The setup is inspired by the Silicon Valley Bank meltdown in March 2023 a…
Credit Valuation Adjustment is a balance sheet item which is nowadays subject to active risk management by specialized traders. However, one of the most important risk factors, which is the vector of default intensities of the counterparty, affects in a non-differentiable way the most general Monte Carlo estimator of the adjustment, through simulation of default times. Thus the computation of first and second order (…
We extend the now classic structural credit modeling approach of Black and Cox to a class of "two-factor" models that unify equity securities such as options written on the stock price, and credit products like bonds and credit default swaps. In our approach, the two sides of the stylized balance sheet of a firm, namely the asset value and debt value, are assumed to follow a two dimensional Markov process. Amongst mo…
We construct the Settlement Modernisation Index, a panel dataset of 809 reform events across 24 advanced economies between 1993 and 2024, decomposed into three economic channels and three adoption phases. We document an S-curve in inside money elasticity with two interior turning points at SMI = 0.27 and 0.93, separating a liberation phase, a post-global-financial-crisis compliance valley, and a mature-infrastructure…
In this study, we introduce an analytics framework, the Bank Risk Interlinkage with Dynamic Graph and Event Simulations (BRIDGES), to capture the systemic risks associated with the growing economic influence of the BRICS nations. This framework includes a Dynamic Time Warping (DTW) method to construct a dynamic network of 551 BRICS banks with their annual balance sheet data from 2008 to 2024; a trend analysis in risk…
In this analysis we determine factors driving the cross-sectional variation in uninsured deposits during the interest rate raising cycle of 2022 to 2023. The goal of our analysis is to determine whether banks proactively managed deposit run risk prior to the hiking cycle which produced the 2023 Regional Banking Crisis. We find evidence that interest rate forward, futures, and swap use affected the change in a bank un…
Balance Sheet Constraint Dealer — Dealer SLR/balance-sheet limits reducing intermediation.
An asset is a present economic resource controlled by an entity from which future cash or service is expected — the left-hand side of the balance sheet.
The balance sheet is the stock of assets, liabilities, and equity at a date — what the firm owns and owes, not the period’s flow.
A liability is a present obligation to transfer economic resources — debt, payables, leases, and other claims that are not equity.
The 2007–09 global financial crisis was a wholesale-run on securitized credit and dealer balance sheets after US housing turned — the modern template for shadow-bank runs, fire sales, and a central-bank-as-market-maker.
Japan’s late-1980s land and equity bubble burst in 1990–92 and became a multi-decade balance-sheet recession — the modern warning about zombification, ZIRP, and delayed write-downs.
The ECB balance sheet reflects the scale of European Central Bank asset holdings and helps track euro-area liquidity, policy transmission, and duration absorption.
The Fed balance sheet reflects the scale of Federal Reserve asset holdings and is a major driver of reserves, liquidity conditions, and policy transmission.
QT pace refers to the speed at which the Federal Reserve allows assets to roll off its balance sheet, affecting reserves, duration supply, and market liquidity.
Funding stress signal derived from FX swap pricing distortions and balance sheet constraints.
Monetary policy is the central bank’s control of short rates, liquidity, and sometimes the balance sheet — the price of reserves and the path of the front end.
Quantitative easing is large-scale central-bank asset purchases that expand reserves — a duration and liquidity operation when the policy rate is pinned.
Quantitative Tightening Pace — The speed of balance-sheet runoff and its impact on reserves, collateral markets, and term funding.
Swap spread measures the difference between interest rate swap rates and Treasury yields of similar maturity, helping track balance-sheet conditions, collateral dynamics, and structural stress in rates markets.
An asset is a present economic resource controlled by an entity from which future cash or service is expected — the left-hand side of the balance sheet.
The balance sheet is the stock of assets, liabilities, and equity at a date — what the firm owns and owes, not the period’s flow.
Balance Sheet Constraint Dealer — Dealer SLR/balance-sheet limits reducing intermediation.
Funding stress signal derived from FX swap pricing distortions and balance sheet constraints.
The ECB balance sheet reflects the scale of European Central Bank asset holdings and helps track euro-area liquidity, policy transmission, and duration absorption.
The Fed balance sheet reflects the scale of Federal Reserve asset holdings and is a major driver of reserves, liquidity conditions, and policy transmission.
The 2007–09 global financial crisis was a wholesale-run on securitized credit and dealer balance sheets after US housing turned — the modern template for shadow-bank runs, fire sales, and a central-bank-as-market-maker.
Monetary policy is the central bank’s control of short rates, liquidity, and sometimes the balance sheet — the price of reserves and the path of the front end.
QT pace refers to the speed at which the Federal Reserve allows assets to roll off its balance sheet, affecting reserves, duration supply, and market liquidity.