StatPro adds value with new measure of Risk
- Hybrid VaR
Current VaR analysis
With each financial failure the credit crisis generates a new
bout of criticism of Value-at-Risk (VaR) and in general the
practice of risk management. One of the main criticisms of
VaR is its pro-cyclicality, whereby VaR tends to increase during
periods of market stress, increasing the likelihood that risk
limits are violated, thus causing further liquidation of positions
in a falling market. This pro-cyclicality has the consequence of
amplifying negative market movements.
How does StatPro solve this? Hybrid
VaR
StatPro has analysed the above criticism of VaR and come up with
a new measure of risk, called Hybrid VaR. We have been able to
prove through back-testing that Hybrid VaR performs better than
other standard VaR measures (e.g. historical simulation) in terms
of stability and is also anti-cyclical in periods of bonanza,
therefore discouraging risk-taking in good times, and in bad times,
providing a cautious measure which doesn’t exaggerate the downward
market trend.
Conclusion
The measurement of VaR in several industry standard models tends
to follow market trends very closely, exaggerating them, so that
when markets do go down, risk increases, hitting risk limits and
causing further liquidation of positions, thus adding further
pressure to market movements. Hybrid VaR does not present the same
variability. It is anti-cyclical in both good and bad times and its
stability helps managers to avoid the frequent and potentially
expensive re-adjustments of the portfolio positions triggered by
VaR swings.
