Hybrid resimulation-regression methods for determining potential future exposure (pfe)

Abstract

A method for use in counterparty credit risk management systems and products to determine or calculate potential future exposure (PFE) for exotic financial investment products including some derivative products. In the method, Monte Carlo simulation is used to generate PFE scenarios. Because PFE calculations can be quite computationally demanding when the pricing model also uses Monte Carlo simulation, the method uses least squares regression with a state space sampling approach as part of the PFE determination process. Using regressions for PFE calculations may generate new or additional challenges, and the method, and systems implementing the method, include tools or processes to address these regression-related issues. Testing of the method was performed using examples of exotic interest rate products, and the numerical results are presented in the disclosure.

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