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FRM Part II · FRM Exam Part II · Advances in Artificial Intelligence: Implications for Capital Markets Activities

A risk manager reviews an AI-driven high-frequency strategy. The strategy's 1-day 99% VaR, estimated from 500 days of calm-period data, is USD 2.0 million. The model is retrained daily on the most recent data, and several similar firms use comparable signals. Which conclusion is MOST appropriate?

VaR likely understates risk. The sample comes from a calm period, and crowding among firms using similar AI signals can trigger sudden correlated unwinds that the historical window does not contain. Daily retraining on recent data does not remove this tail risk, so stress testing is needed.

  1. AVaR is reliable because daily retraining removes tail risk
  2. BVaR likely understates risk because calm-period data and crowding in similar strategies can produce sudden, correlated unwinds not captured in the sampleCorrect
  3. CVaR is overstated because crowding reduces volatility in all conditions
  4. DVaR is irrelevant because AI strategies have no market risk

Explanation

Historical VaR from calm data underrepresents tail events. Crowded strategies using similar signals may unwind together, creating losses beyond the sample experience; daily retraining on recent calm data can reinforce this blind spot. Supplement with stress tests and scenario analysis.

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