CFA Level I · CFA Level I Exam · Simulation of Financial Asset Prices and Returns
A risk manager uses historical simulation to estimate the one-day value at risk of a portfolio. Compared with a Monte Carlo approach based on a fitted normal distribution, historical simulation most likely:
Historical simulation uses actual past returns, so it can capture observed fat tails and skewness without assuming a distribution. Its weakness is dependence on the sample period chosen, but it needs no parametric assumption, unlike a Monte Carlo model built on a fitted normal.
- Arequires an assumed parametric return distribution.
- Buses actual past returns, so it can capture observed fat tails.Correct
- Cproduces results independent of the sample period chosen.
Explanation
Historical simulation resamples observed returns, so it reflects real skewness and fat tails without a distributional assumption. Its results do depend on the sample window, and it needs no parametric assumption.
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