Under the Basel II Accord, banks and other Authorized Deposit-taking Institutions (ADIs) have to communicate their daily risk estimates to the monetary authorities at the beginning of the trading day, using a variety of Value-at-Risk (VaR) models to measure risk. Sometimes the risk estimates communicated using these models are too high, thereby leading to large capital requirements and high capital costs. At other times, the risk estimates are too low, leading to excessive violations, so that realised losses are above the estimated risk. In this paper we propose a learning strategy that complements existing methods for calculating VaR and lowers daily capital requirements, while restricting the number of endogenous violations within the Basel II Accord penalty limits. We suggest a decision rule that responds to violations in a discrete and instantaneous manner, while adapting more slowly in periods of no violations. We apply the proposed strategy to Standard & Poor’s 500 Index and show there can be substantial savings in daily capital charges, while restricting the number of violations to within the Basel II penalty limits.

Additional Metadata
Keywords daily capital charges, endogenous violations, frequency of violations, optimizing strategy, risk forecasts, value-at-risk
JEL Forecasting and Other Model Applications (jel C53), Portfolio Choice; Investment Decisions (jel G11), Financial Forecasting (jel G17), Financing Policy; Capital and Ownership Structure (jel G32)
Publisher Erasmus School of Economics
Persistent URL hdl.handle.net/1765/13986
Series Econometric Institute Research Papers
Journal Report / Econometric Institute, Erasmus University Rotterdam
McAleer, M.J, Jiménez-Martín, J.A, & Pérez-Amaral, T. (2008). A decision rule to minimize daily capital charges in forecasting value-at-risk (No. EI 2008-34). Report / Econometric Institute, Erasmus University Rotterdam (pp. 1–29). Erasmus School of Economics. Retrieved from http://hdl.handle.net/1765/13986