Expected shortfall and VAR: cracking the marginal allocations
Here, Apoorva Shende, Kyriakos Chourdakis, Amit Puniyani, Marc Jeannin, Alan Smillie and Eduardo Epperlein develop an enhanced method for estimating marginal value-at-risk using local linear regression. Their new method ensures additivity, leads to systematically lower estimation errors, and is shown to be applicable for marginal expected shortfall estimation
A major motivation for estimating marginal or component value-at-risk is to allocate VAR-based market risk and CVA (regulatory) capital measures of a portfolio to a sub-portfolio or a trade within the larger portfolio. While the current regulations mandate VAR-based capital measures, the upcoming Fundamental review of the trading book (FRTB) will require expected shortfall (ES) to replace VAR
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