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Let's discuss what a PFE is before looking at the equation. PFE is a common statistical measure for the amount of money you'll lose if your counterparty defaults. Let's give an example, say if you were to long 1000 far-in-the-money call options with a bank. Those options worth a lot to you because they're all in-the-money, it's something that you want to ...


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When you enter into a derivative trade, such as a swap, the intial value is zero; as interest rates change the value may become positive or negative. If it is positive and the counterparty defaults you could be out a big sum of money (imagine that you are trading with Lehman Brothers in 2008). The idea of PFE is to estimate at some time in the future the ...



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