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FRM Part II · FRM Exam Part II · Regulating the Crypto Ecosystem: The Case of Unbacked Crypto Assets

A bank considers holding USD 50 million of an unbacked crypto asset whose price volatility is 4% daily. Assuming normal returns and a 99% one-day VaR multiplier of 2.33, the one-day VaR is USD 4.66 million. A regulator argues that this understates the true risk. Which reason is MOST consistent with the reading's risk analysis of crypto markets?

The normal-based VaR of USD 4.66 million (50m x 4% x 2.33) is arithmetically right but likely understates tail risk. Crypto returns are fat-tailed with sudden jumps and run dynamics, so extreme losses exceed what a normal distribution implies.

  1. ACrypto returns exhibit fat tails and jump risk from run dynamics, so a normal-based VaR can understate extreme lossesCorrect
  2. BThe 99% multiplier should be 1.65, which would raise the VaR
  3. CDaily volatility cannot be used because crypto trades only on weekdays
  4. DVaR is inapplicable because crypto has no market price

Explanation

VaR = 50 x 4% x 2.33 = USD 4.66 million, which is correct under normality. Crypto returns are fat-tailed with jumps and run-like dynamics, so normal VaR understates tail losses. The 1.65 multiplier is for 95% and would lower VaR, crypto trades continuously, and prices are observable.

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