Skip to content

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

A validator examines a historical-simulation VaR model that uses a one-year window of daily data. After a prolonged calm period, market volatility spikes sharply. Which assumption weakness is most directly exposed?

The exposed weakness is the assumption that the past window represents near-term risk. With equal weighting of calm observations, historical-simulation VaR adjusts slowly when volatility jumps, understating risk until the window fills with turbulent data.

  1. AThe assumption that returns are normally distributed
  2. BThe assumption that the recent window is representative of near-term risk, so VaR reacts slowly to the new regimeCorrect
  3. CThe assumption that positions are linear in risk factors
  4. DThe assumption that risk factors are perfectly correlated

Explanation

Historical simulation with an equally weighted window assumes the sample reflects future conditions. After a regime shift, calm observations dominate and VaR lags. Historical simulation does not assume normality or linearity.

Did you get it right without looking?

One question tells you little. A timed set on Validating Bank Holding Companies' Value-at-Risk Models for Market Risk shows your real accuracy, how long you take and where you lose marks.

Practise Validating Bank Holding Companies' Value-at-Risk Models for Market RiskFree diagnostic mock

More Validating Bank Holding Companies' Value-at-Risk Models for Market Risk questions