Question #7
Reading: Reading 37 Measuring and Managing Market Risk
PDF File: Reading 37 Measuring and Managing Market Risk.pdf
Page: 4
Status: Incorrect
Correct Answer: A
Your Answer: B
Part of Context Group: Q7-8
First in Group
Shared Context
Question
Manning's paragraph detailing the historic simulation method is:
Answer Choices:
A. correct
B. incorrect about VaR calculation
C. incorrect regarding the application to portfolios containing options
Explanation
The VaR estimate under the historical simulation approach is the smallest of the largest
5% losses, not average. Great care should be taken that the historical period used to
capture the data is not atypical in some respect (i.e., had a very low or high volatility).
Relative to the parametric method, one big advantage of historical simulation is that it
does not require any assumption about the distribution of returns. Since you are not
making any assumptions about the shape of the distribution, derivative securities such as
options with their asymmetric distributions of payoffs, do not present any problems.