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I am a beginner in this space and did some research on how the collateral posted affects the choice of the discounting curve in derivatives transactions.

We have two scenarios based on the PV of a trade:

  1. PV > 0, ctpy is gaining from the transaction

receives collateral and needs to pay interest and return the amount at maturity

  1. PV < 0, ctpy is losing from the transaction

posts collateral and receives interest

My question is why the rate paid/received on the collateral is used to discount the future cash flow of that trade?

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  • $\begingroup$ Read "V. Piterbarg: funding beyond discounting". In a perfect continuous collateral settings funding of the deal is done entirely trough the collateral hence funding rate is the collateral rate $\endgroup$ – Antoine Conze Mar 12 at 7:58

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