Evaluating the Forecasts of Risk Models

Board of Governors of the Federal Reserve System, Finance and Economics Discussion Series No. 99-11

33 Pages Posted: 9 Apr 1999

See all articles by Jeremy Berkowitz

Jeremy Berkowitz

University of Houston - Department of Finance

Date Written: March 16, 1999

Abstract

The forecast evaluation literature has traditionally focused on methods for assessing point-forecasts. However, in the context of risk models, interest centers on more than just a single point of the forecast distribution. For example, value-at-risk (VaR) models which are currently in extremely wide use form interval forecasts. Many other important financial calculations also involve estimates not summarized by a point-forecast. Although some techniques are currently available for assessing interval and density forecasts, none are suitable for sample sizes typically available. This paper suggests an new approach to evaluating such forecasts. It requires evaluation of the entire forecast distribution, rather than a value-at-risk quantity. The information content of forecast distributions combined with ex post loss realizations is enough to construct a powerful test even with sample sizes as small as 100.

JEL Classification: G10, C52

Suggested Citation

Berkowitz, Jeremy, Evaluating the Forecasts of Risk Models (March 16, 1999). Board of Governors of the Federal Reserve System, Finance and Economics Discussion Series No. 99-11, Available at SSRN: https://ssrn.com/abstract=158689 or http://dx.doi.org/10.2139/ssrn.158689

Jeremy Berkowitz (Contact Author)

University of Houston - Department of Finance ( email )

Houston, TX 77204
United States

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