The Best of Both Worlds: A Hybrid Approach to Calculating Value at Risk

12 Pages Posted: 7 Jan 1998  

Matthew P. Richardson

New York University (NYU) - Department of Finance; National Bureau of Economic Research (NBER); AQR Capital Management, LLC

Jacob Boudoukh

Interdisciplinary Center (IDC) Herzliyah; AQR Capital Management, LLC

Robert Whitelaw

New York University; National Bureau of Economic Research (NBER)

Date Written: November 1997

Abstract

The hybrid approach combines the two most popular approach to VaR estimation: RiskMetrics and Historical Simulation. It estimates the VaR of a portfolio by applying exponentially declining weights to past returns and then finding the appropriate percentile of this time-weighted empirical distribution. This new approach is very simple to implement. Empirical tests show a significant improvement in the precision of VaR forecasts using the hybrid approach relative to RiskMetrics and Historical Simulation. It is especially appropriate for calculating the VaR of fat-tailed and highly skewed data, with rapidly changing moments. As an aside, we also introduce a new method for testing the perfomance of various VaR forecasts.

JEL Classification: G10,C14

Suggested Citation

Richardson, Matthew P. and Boudoukh, Jacob and Whitelaw, Robert, The Best of Both Worlds: A Hybrid Approach to Calculating Value at Risk (November 1997). Available at SSRN: https://ssrn.com/abstract=51420 or http://dx.doi.org/10.2139/ssrn.51420

Matthew P. Richardson

New York University (NYU) - Department of Finance ( email )

44 West 4th Street
Suite 9-190
New York, NY 10012-1126
United States
212-998-0349 (Phone)
212-995-4233 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

AQR Capital Management, LLC ( email )

Greenwich, CT
United States

Jacob Boudoukh

Interdisciplinary Center (IDC) Herzliyah ( email )

P.O. Box 167
Herzliya, 46150
Israel

AQR Capital Management, LLC ( email )

Greenwich, CT
United States

Robert F. Whitelaw (Contact Author)

New York University ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0338 (Phone)
212-995-4233 (Fax)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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