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FRM Part II · FRM Exam Part II · Parametric Approaches (II): Extreme Value

Which assumption underlies the basic classical EVT results for block maxima, and is therefore a practical concern when applying them to daily financial losses?

Classical EVT results assume independent, identically distributed observations. Daily financial losses show volatility clustering, so extremes arrive in clusters, which can distort estimates unless the data are filtered or dependence is modelled. EVT does not require normality or any particular skewness.

  1. ALosses must be normally distributed
  2. BLosses are independent and identically distributed, whereas volatility clustering makes real returns dependentCorrect
  3. CLosses must be negatively skewed
  4. DThe sample must contain at least one loss exceeding the VaR

Explanation

Classical EVT assumes i.i.d. observations. Financial returns show volatility clustering, so extremes occur in clusters, which can distort estimates unless the data are filtered (e.g., with GARCH) or the dependence is modelled. Normality is not required.

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