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FRM Part I · FRM Exam Part I · Calculating and Applying VaR

A portfolio manager reports a one-day 99% VaR of USD 2.0 million for a trading book. Which statement correctly interprets this figure?

A 99% one-day VaR of USD 2.0 million means there is a 1% chance of losing more than USD 2.0 million over one day, given the model's assumptions. It is a quantile threshold and says nothing about how large losses are once that threshold is breached.

  1. AThere is a 1% probability that the book loses more than USD 2.0 million over the next day, under the model's assumptionsCorrect
  2. BThe book will lose exactly USD 2.0 million on the worst 1% of days
  3. CThe expected loss on the day after a breach is USD 2.0 million
  4. DThe book will lose at most USD 2.0 million on 99% of days, and the average loss on the remaining days is USD 2.0 million

Explanation

VaR is a quantile of the loss distribution: the loss threshold exceeded with probability 1% over the horizon. It gives no information on the size of losses beyond that threshold. The expected loss given a breach is expected shortfall, which exceeds VaR.

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