Historical Simulation, Value-at-Risk, and expected shortfall - Pros and cons of Historical Simulation

6 important questions on Historical Simulation, Value-at-Risk, and expected shortfall - Pros and cons of Historical Simulation

The first pro's of historical simulation

1. The easy way to implement. 2. It's model free nature.

What is the advantage of a model free nature

1. Relying on a model can be misleading if the model is poor

Cons of the model free nature

1. How large should m be? . If it too large then today's observation carries very little weight, if too small then there are not enough losses. Normally its between 250 and 1000 days.
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A other darwback of histrorical approach has to do with the lengt of K

If you want to calculate from 1 day to 10 days average VaR than the only way to do this is by getting more data, what is obviously. A easy multiplying with sqr(10) is only valid under the assumption of normality what you want to avoid with the historical approach.

What is the Ghost feaatrue:

a very large negative return stays in the sample for m days, after wich Var suddenly decreases.

What is the drawbacks of multiday VaR

You need lots of data

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