Author : Jose A. Lopez
Publisher :
ISBN 13 :
Total Pages : 52 pages
Book Rating : 4.:/5 (129 download)
Book Synopsis Evaluating Covariance Matrix Forecasts in a Value-at-Risk Framework by : Jose A. Lopez
Download or read book Evaluating Covariance Matrix Forecasts in a Value-at-Risk Framework written by Jose A. Lopez and published by . This book was released on 2002 with total page 52 pages. Available in PDF, EPUB and Kindle. Book excerpt: Covariance matrix forecasts of financial asset returns are an important component of current practice in financial risk management. A wide variety of models, ranging from matrices of simple summary measures to covariance matrices implied from option prices, are available for generating such forecasts. In this paper, we evaluate the relative accuracy of different covariance matrix forecasts using standard statistical loss functions and a value-at-risk (VaR) framework. This framework consists of hypothesis tests examining various properties of VaR models based on these forecasts as well as an evaluation using a regulatory loss function.Using a foreign exchange portfolio, we find that implied covariance matrix forecasts appear to perform best under standard statistical loss functions. However, within the economic context of a VaR framework, the performance of VaR models depends more on their distributional assumptions than on their covariance matrix specification. Of the forecasts examined, simple specifications, such as exponentially-weighted moving averages of past observations, perform best with regard to the magnitude of VaR exceptions and regulatory capital requirements. These results provide empirical support for the commonly-used VaR models based on simple covariance matrix forecasts and distributional assumptions.
