Question #9
Reading: Reading 37 Measuring and Managing Market Risk
PDF File: Reading 37 Measuring and Managing Market Risk.pdf
Page: 4
Status: Incorrect
Correct Answer: B
Your Answer: B
Question
Which one of the following is NOT a limitation of VaR?
Answer Choices:
A. Incorporates only right tail risk
B. VaR based risk limits may be inappropriate in trending markets
C. VaR computed during periods of unusually low volatility may underestimate actual VaR
Explanation
VaR computations only incorporate left tail risk (and ignores the returns in the right tail).
VaR computed using too low of estimates of volatility will be too low and underestimates
the downside risk based on true estimates of volatility. In downward trending markets,
consistent negative returns may not breach daily or weekly VaR but nonetheless can lead
to significant accumulation of losses.