Links to all tutorial articles (same as those on the Exam pages)VaR and heavy tails
Value at risk is affected by tails and there is so much stuff in the PRMIA handbook about dealing with heavy tails. This can be confusing as the handbook sort of presumes an understanding of how tails affect VaR - so here is a short tutorial to explain how heavy tails affect Value at Risk. A heavy tailed distribution has more weight in the tails. However, since the total "weight" has to be 1 (ie the area under the curve will equal the total porbability which would be 100%), the extra weight in the tails comes from the middle of the distribution. So this leads to interesting effects on VaR calculations. |