Moving from Value-at-risk to Expected Shortfall

Sanjay Sharma and John Beckwith

“Every year, if not every day, we have to wager our salvation upon some prophecy based upon imperfect knowledge” – US Supreme Court (1919)

Since its selection by BCBS in 1996 as the principal market risk measure and determinant of capital, VaR has gained widespread adoption, but during the global financial crises of 2007–2009, regulators and banks came to the harsh realisation of VaRs limitations for capturing tail risks. This led BCBS to replace VaR and stressed VaR with ES as the principal risk parameter for determination of IMA capital charge. This shift is desirable because, as a risk measure, ES incorporates notional levels and likelihood of loss, and also captures tail risk in a way that VaR does not. The challenges for adoption of ES as the main risk parameter will be reliable backtesting and the possibility of large fluctuations in capital charge at the desk level, which makes return estimates and capital management problematic. Traders and other front-office personnel will have to adapt to ES in limit and risk management frameworks.

In this chapter, we first provide a non-quantitative and illustrative view of the basic construct of VaR and its applicability as a

To continue reading...

You need to sign in to use this feature. If you don’t have a account, please register for a trial.

Sign in
You are currently on corporate access.

To use this feature you will need an individual account. If you have one already please sign in.

Sign in.

Alternatively you can request an individual account here: