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Backtesting Portfolio Value-at-Risk with Estimated Portfolio Weights

CAEPR Working Paper #010-2010

Posted: 11 Dec 2010  

Pei Pei

Central University of Finance and Economics (CUFE) - Chinese Academy of Finance and Development

Date Written: November 21, 2010

Abstract

This paper theoretically and empirically analyzes backtesting portfolio VaR with estimation risk in an intrinsically multivariate framework. For the fi rst time in the literature, it takes into account the estimation of portfolio weights in forecasting portfolio VaR and its impact on backtesting. It shows that the estimation risk from estimating the portfolio weights as well as that from estimating the multivariate dynamic model of asset returns make the existing methods in a univariate framework inapplicable. And it proposes a general theory to quantify estimation risk applicable to the present problem and suggests practitioners a simple but e ffective way to carry out valid inference to overcome the e ffect of estimation risk in backtesting portfolio VaR. A simulation exercise illustrates our theoretical findings. In application, a portfolio of three stocks is considered.

Keywords: Backtesting, Portfolio, Estimation risk, Forecast evaluation, Risk management, Value at Risk

JEL Classification: C52, C32, G32

Suggested Citation

Pei, Pei, Backtesting Portfolio Value-at-Risk with Estimated Portfolio Weights (November 21, 2010). CAEPR Working Paper #010-2010. Available at SSRN: https://ssrn.com/abstract=1722177

Pei Pei (Contact Author)

Central University of Finance and Economics (CUFE) - Chinese Academy of Finance and Development ( email )

39 South College Road
Beijing
China

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