Structured Risk Assessment and Value-at-Risk

UA EFLS Working Paper No. 02-06-01

23 Pages Posted: 23 Jan 2003

See all articles by Robert Brooks

Robert Brooks

University of Alabama - Department of Economics, Finance and Legal Studies

Joe H. Sullivan

Mississippi State University - Department of Marketing, Quantitative Analysis and Business Law

Zachary G. Stoumbos

Rutgers, The State University of New Jersey - Management Science & Information Systems

Date Written: August 30, 2002

Abstract

An important question for corporate finance officers is whether risk management systems, such as Value at Risk (VaR), currently are producing accurate results. In contrast to previous research on assessing the accuracy of risk systems or VaR, which has focused on backtesting a large sample of historical observations, we provide tools for real-time assessment, using a time window that varies adaptively with the data. The objective is to quickly signal if the estimation process is systematically biased, subject to a specified rate of false detections. For example, if the volatility is systematically underestimated by 25 percent our procedure detects this in an average of 25 observations. Previous techniques have often backtested thousands of observations.

We also discuss the trade-off between increasing detection power at the risk of detecting meaningless errors and suggest a parameter to specify the balance desired for a specific application.

Keywords: Risk management, value-at-risk, real-time assessment

JEL Classification: C13, C53, C63, G30

Suggested Citation

Brooks, Robert E. and Sullivan, Joe H. and Stoumbos, Zachary G., Structured Risk Assessment and Value-at-Risk (August 30, 2002). UA EFLS Working Paper No. 02-06-01. Available at SSRN: https://ssrn.com/abstract=332403 or http://dx.doi.org/10.2139/ssrn.332403

Robert E. Brooks (Contact Author)

University of Alabama - Department of Economics, Finance and Legal Studies ( email )

P.O. Box 870244
Tuscaloosa, AL 35487
United States
205-348-8987 (Phone)
205-348-0590 (Fax)

HOME PAGE: http://www.frmhelp.com

Joe H. Sullivan

Mississippi State University - Department of Marketing, Quantitative Analysis and Business Law ( email )

Mississippi State, MS 39762
United States
662-325-1993 (Phone)
622-325-7012 (Fax)

Zachary G. Stoumbos

Rutgers, The State University of New Jersey - Management Science & Information Systems ( email )

180 University Ave.
Newark, NJ 07102-1895
United States
732-445-6849 (Phone)
732-445-6329 (Fax)

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