Enhancement of Market Risk Models - shift from VaR to Expected Shortfall based methodology for an European Investment Bank
Client : Large European Investment Bank
Objective
To help a large European investment bank switch from VaR to Expected Shortfall methodology by enhancing market risk models.
CRISIL's Solution
- Assessed and enhanced a suite of market risk models across asset classes in a limited amount of time
- Completed the following analyses to assess the impact of changing risk numbers from the standard 99% percentile VaR methodology to the expected shortfall methodology:
- The following analyses were carried out to assess the impact of changing the risk numbers from the standard 99% percentile VaR methodology to the expected shortfall methodology
- Equivalence: ES with the standard 99% percentile VaR;
- Theoretical Analysis: establishment of the equivalence of ES for both normal and thick- tail distributions;
- Stability: Established that ES is marginally more stable than VaR using entropy analysis;
- Concluding Analyses: Established that the ES 98% is greater than the 99% percentile VaR, validating the choice for the final specification.
Client Impact
- Using remote access to the client’s systems, CRISIL executed all analyses relevant for the methodology change exercise and provided appropriate documentation
- Documentation submitted to the client’s high-level risk committee for sign-off to satisfy applicable regulatory requirements
- Model validation facilitated a seamless transition to Expected Shortfall methodology