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FRM Part II · FRM Exam Part II · Fundamental Review of the Trading Book

Under the Fundamental Review of the Trading Book (FRTB) internal models approach, which market risk measure replaces 99% Value-at-Risk as the basis for regulatory capital, and at what confidence level is it calibrated?

The internal models approach uses expected shortfall at a 97.5% confidence level instead of 99% VaR. ES captures the average loss in the tail beyond the quantile, so it reflects tail severity, and 97.5% ES is roughly equivalent to 99% VaR for normal distributions.

  1. AExpected shortfall at 97.5%Correct
  2. BExpected shortfall at 99%
  3. CValue-at-Risk at 99.9%
  4. DStressed Value-at-Risk at 99%

Explanation

FRTB replaces 99% VaR with expected shortfall calibrated at a 97.5% confidence level. This captures tail risk beyond the quantile and gives a similar level of risk to 99% VaR under normality. Options with a 99% ES or 99.9% VaR use the wrong confidence level or measure, and stressed VaR was the Basel 2.5 add-on that FRTB removes.

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