Should derivatives values be adjusted for capital costs? If so; in what circumstances and by how much? In this presentation we discuss these questions and attempt to clarify the role of the capital valuation adjustment (KVA). We show that there are two types of KVA which apply to different concepts of value. The first KVA is a risk adjustment to account for missing risk premia whereas the second is a compensation for a transfer of wealth that occurs when a firm’s leverage changes.
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