When dealing with market risk under the Basel II Accord, variation pays in the form of lower capital requirements and higher profits. Typically, GARCH type models are chosen to forecast Value-at-Risk (VaR) using a single risk model. In this paper we illustrate two useful variations to the standard mechanism for choosing forecasts, namely: (i) combining different forecast models for each period, such as a daily model that forecasts the supremum or infinum value for the VaR; (ii) alternatively, select a single model to forecast VaR, and then modify the daily forecast, depending on the recent history of violations under the Basel II Accord. We illustrate these points using the Standard and Poor’s 500 Composite Index. In many cases we find significant decreases in the capital requirements, while incurring a number of violations that stays within the Basel II Accord limits.

Additional Metadata
Keywords aggressive risk strategy, conservative risk strategy, risk management, value-at-risk forecast, violations
JEL C22, Time-Series Models; Dynamic Quantile Regressions (jel), C53, Forecasting and Other Model Applications (jel), G11, Portfolio Choice; Investment Decisions (jel), G17, Financial Forecasting (jel), G32, Financing Policy; Capital and Ownership Structure (jel)
Publisher Erasmus School of Economics (ESE)
Persistent URL hdl.handle.net/1765/16512
McAleer, M.J, Jimenez-Martin, J-A, & Perez-Amaral, T. (2009). What Happened to Risk Management During the 2008-09 Financial Crisis? (No. EI 2009-17). Report / Econometric Institute, Erasmus University Rotterdam (pp. 1–13). Erasmus School of Economics (ESE). Retrieved from http://hdl.handle.net/1765/16512