Fair value adjustment is defined as the amount to be added either to the market observed mid-price or to the theoretical price generated by a valuation model with the aim of obtaining a fair value of the position. Therefore FVA are aimed at insuring that the fair value reflects the actual exit price of a certain position.
Below the main adjustments:
Credit and debit valuation adjustment (CVA/DVA)
Model Risk
Close-out Costs
Other Adjustments
Credit and debit valuation adjustment (CVA/DVA)
Credit valuation adjustments (CVAs) and debit valuation adjustments (DVAs) are incorporated into derivative valuations to reflect the impact on fair value of counterparty credit risk and UniCredit own credit quality respectively.
>>Notes to the Accounts – Part A) Accounting Policies
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EAD derived by simulation techniques. Simulated exposures also take into account Specific Wrong Way Risk that arises for transactions where there is a correlation between counterparty credit risk and the underlying derivative risk factors;
PD derived by actual historic default rates or implied by current market default rates, obtained from credit default swaps.
LGD based on the estimated level of expected recovery should a counterparty default and obtained from a bank’s own
historical experience or implied by current market default rates, obtained from credit default swaps.
Model Risk
Financial models are used for the valuation of the financial instruments if the direct market quotes are not readily available. In general the model risk is represented by the possibility that a financial instrument’s evaluation is actually sensitive to the choice of model. It is possible to value the same financial instrument by using alternative models which could provide different results in term of pricing. The model risk adjustments refer to the risk that the actual fair value of the instrument differs from the value produced by the model.
Close-out Costs
It measures the implicit costs of closing an (aggregated) trading position. The position could be closed by a long position (or purchase in the case of a short position), or by entering into a new transaction (or several transactions) that offsets (hedges) the open position. The close-out costs are typically derived from the bid/ask spreads observed on the market. It accounts for the fact that a position is valued at mid but can only be closed at bid or ask. This adjustment is not needed when the position is marked at bid or ask and already represents an exit price. Moreover a close-out adjustment of the NAV is applied when there are some penalties related to position write off in an investment fund.
Other adjustments
Other fair value adjustments, which are not included into the previous categories, could be taken into consideration to align the evaluation to the current exit price, also according to the level of liquidity of the market and valuation parameters, e.g adjustment of equity prices whose quotation on the market are not representative of the effective exit price.
Assets and Liabilities not measured at fair value or measured at fair value on a non-recurring basis
Financial instrument not carried at fair value, for example retail loans and deposit, and credit facilities extended to corporate clients are not managed on a fair value basis.
For these instruments fair value are calculated for disclosure purposes only and do not impact the balance sheet or the profit or loss. Additionally, since these instruments generally do not trade, there is significant management judgment required to determine their fair values as defined by IFRS 13.
Cash and cash balances
Cash and cash balances are not carried at fair value on the Consolidated Balance Sheets, but they are carried at amounts that approximate fair value, due to their short term nature and generally negligible credit risk.
Held-to-maturity investments
Considering that held to maturity investments are mainly composed by securities fair value for this asset class is determined according to what previously explained in the section A.4.1 Additional information on fair value - Fixed Income Securities.
Loans and Receivables
Fair value for performing Loans and Receivables from customers and banks, recorded ad amortized cost, is determined using the discounted cash flow model adjusted for credit risk. Some portfolios are valued according to simplified approaches, which however take into account the financial features of the financial intruments.
COMPANY ACCOUNTS
AS AT DECEMBER, 31 2013
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Property, plant and equipment held for investment purposes
The fair value of property, plant and equipment held for investment purposes is measured for reporting disclosure, and it is determined on the basis of a valuation by an independent valuer who holds a recognized and relevant professional qualification which perform its valuation mainly on the basis of an indirect knowledge of the assets through the information made available by the owner and relative to the localization, consistency, destination and in consideration of market analysis.
The attribution of fair value levels is based on the level of observability of the significant market parameters used by the valuation technique. Given the current portfolio composition, most of the positions are at level 3.
Debt securities in issue
Fair value for debt securities in issue, recorded ad amortized cost, is determined using the discounted cash flow model adjusted for Unicredit credit risk. The Credit Spread is determined using UCG’s subordinated and non-subordinated risk curves.
Other liabilities
Fair value for liabilities, recorded ad amortized cost, is determined using the discounted cash flow model adjusted for Unicredit credit risk. The Credit Spread is determined using UCG’s senior and subordinated risk curves.