How Is Potential Future Exposure (PFE) Calculated for an OTC Derivatives Portfolio?

PFE is a measure of the maximum loss a counterparty could incur due to market movements over a specific period, with a high degree of confidence (e.g. 99%).

It is calculated using complex simulation models, like Monte Carlo simulations, that project future market scenarios. This determines the resulting change in the portfolio's mark-to-market value under stress.