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FRM Part II · FRM Exam Part II · Validating Bank Holding Companies' Value-at-Risk Models for Market Risk

A bank's 99% one-day VaR model is backtested over 250 trading days and shows 6 exceptions. Under the Basel traffic-light approach, which zone does this fall into, and what is the implication?

Six exceptions in 250 days falls in the yellow zone, which spans 5 to 9 exceptions. The supervisory response is an increase in the multiplier applied to VaR for capital, and the model is not automatically rejected, as it would be in the red zone at 10 or more.

  1. AGreen zone; no capital multiplier increase
  2. BYellow zone; the multiplier on the capital charge increasesCorrect
  3. CRed zone; the model is automatically rejected
  4. DYellow zone; the multiplier is unchanged

Explanation

Green covers 0 to 4 exceptions, yellow 5 to 9, red 10 or more. Six exceptions is yellow, which carries an increased plus-factor in the capital multiplier (0.50 at 6 exceptions). Red would require 10 or more.

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