Full revaluation serves as an effective risk assessment approach for quantifying the potential risk exposure associated with a portfolio of derivatives. This method involves the comprehensive reassessment of the entire derivative portfolio at regular intervals, leveraging the prevailing market prices of the underlying assets or securities.
This technique is particularly valuable in evaluating the risk inherent in both retaining and trading these financial instruments. The range of financial instruments encompassed by this method spans stocks, bonds, derivatives, options, and various other types of securities.
The meticulous execution of a full revaluation entails a series of strategic steps geared toward precisely recalibrating the valuation of financial instruments in light of current market dynamics. Although the specific process can be contingent on the nature of the instruments and the distinct practices of the financial institution, the subsequent delineation presents a generic framework for undertaking a full revaluation:
1. Data Compilation and Validation:
– Aggregate all pertinent data and particulars linked to the financial instruments earmarked for revaluation.
– Rigorously verify the precision and integrity of the data, encompassing transaction specifics, market prices, interest rates, and other pertinent variables.
2. Identification of Valuation Models and Approaches:
– Ascertain the most suitable valuation models and methodologies for each category of financial instrument. Diverse instruments may necessitate distinct valuation strategies.
3. Collection of Market Data:
– Amass up-to-date market data that is pertinent to the valuation of the targeted instruments. This could encompass current market prices, interest rates, exchange rates, volatility metrics, and additional market indicators.
4. Adaptation to Market Dynamics:
– Revise the valuation inputs within the chosen valuation models based on the present market data. For instance, when appraising bonds, the yield curve might be adjusted, while in the case of options, volatility and underlying asset prices could be updated.
5. Calculation of Revised Values:
– Employ the recalibrated valuation inputs in the selected models to compute the new valuations of the financial instruments.
Employing a full revaluation, while computationally resource-intensive and time-demanding, enables a more precise measurement of risk. Furthermore, it has the capacity to encompass a comprehensive spectrum of potential market fluctuations and movements. This, in turn, allows for a more nuanced and accurate evaluation of the portfolio’s risk exposure.
