Mitigate your collateral risk

  

Published: 16th October 2009 by William Webster

Counterparty credit exposure (CCE) is a big issue it's why you have credit limits. When you lend money the risk is clear, will you get repaid? But with over the counter derivatives (like swaps) credit exposures are harder to see but nevertheless they are real. Derivatives with positive mark-to-market values generate credit risk. Why? Because default by the counterparty puts your profit at risk. One solution is collateral management. This involves a regular trade portfolio valuation and a net exchange of margin or collateral between the two parties involved.

Collateral management is a process; it mitigates your credit risk but at the same time increases your operational risks. It's too easy to focus on the credit aspect of collateral without identifying what else could go wrong. Let's have a look at ten of the main concerns. It's not an exhaustive list but it may help you identify where improvements can be made.

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Document Summary

Collateral management mitigates credit exposures. But it's easy to ignore what can go wrong. Use this to identify where you need to make improvements.