IVSC Release Draft Guidance on Valuation Risks

The IVSC, International Valuation Standards Council, has just published a new exposure draft which provides guidance on what they determine to be fair value under the IFRS 13 “Fair Value Measurement” and also for other purposes. This draft paper is focussing on how both own credit risk and counter party credit risk are currently being taken into account during the measurement process of certain financial liabilities and assets which are measured by fair value.

The exposure draft is entitled “Credit and Debit Valuation Adjustments” and if it finalised it would result in an IVSC TIP, Technical Information Paper, being issued. Such papers of this kind are designed to provide guidance on the approaches that could be suitable but won't mandate or prescribe the use of one particular approach in any one specific situation.

IFRS 13 currently requires that a liability's fair value be reflected in the effect of a non performance risk including, but not necessarily limited to, the personal credit risk to an entity. This is referred to as a DVA, or Debt Valuation Adjustment, in the draft, and consideration of a counter party credit risk is also relevant when measuring derivative financial instruments which have to be measured under IAS 39 Financial Instruments; Recognition and Measurement or IFRS 9 Financial Instruments.

This is referred to in the paper as a CVA, or Credit Valuation Adjustment. The exposure draft has been designed to give clarification on the terminology which is used in regards to DVA and CVA, along with underlying concepts. Also included in insights on how such as challenges arising from complex valuations which are related to DVA and CVA are addressed by those entities who have derivative portfolios which are larger and possibly more complex.

It also looks at, and makes suggestions on improving, the generally accepted practices which are currently in place for those who have smaller derivative portfolios, or those which are less complex.