Question #1 of 66 Question ID: 439320

The Westover Fund is a portfolio consisting of 42 percent fixed income investments and 58 percent equity
investments. The manager of the Westover Fund recently estimated that the annual VAR(5 percent), assuming a
250-day year, for the entire portfolio was $1,367,000 based on the portfolio's market value of $12,428,000 and a
correlation coefficient between stocks and bonds of zero. If the annual loss in the equity position is only expected to
exceed $1,153,000 5 percent of the time, then the daily expected loss in the bond position that will be exceeded 5
percent of the time is closest to:

✗ A) $21,163.

✓ B) $46,445.

✗ C) $72,623.
✗ D) $55,171.

Explanation

Begin by using the formula for dollar portfolio VAR to compute the annual VAR(5%) for the bond position:
VAR2portfolio = VAR2Stocks + VAR2Bonds + 2VARStocksVARBonds ρStocks, Bonds
(1,367,000)2 = (1,153,000)2 + VAR2Bonds + 2(1,153,000)VARBonds(0)
VARBonds = [(1,367,000)2 - (1,153,000)2]0.5 = 734,357

Next convert the annual $VARBonds to daily $VARBonds:

734,357 / (250)0.5 = 46,445

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Question #2 of 66 Question ID: 738647

If a 10-day VAR is $15,000,000, the 250-day VAR, assuming no change in confidence level, would be:

✗ A) $237,000,000.

✓ B) $75,000,000.

✗ C) $7,500,000.
✗ D) $23,700,000.

Explanation
Just back out the 1-day VAR by dividing by the square root of 10 and then multiply by the square root of 250 to get
the 250-day VAR.

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Question #3 of 66 Question ID: 439352

RiskMetrics uses the following value for the decay factor of daily data:

✗ A) 0.97.

✗ B) 0.92.

✓ C) 0.94.

✗ D) 0.95.

Explanation

RiskMetrics uses a decay factor of 0.94 for daily data and 0.97 for monthly data.

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Question #4 of 66 Question ID: 439354

l= 0.96

K= 100

Ten Lowest Number of Past

Rank Hybrid Weight
Returns Periods

1 -4.30% 7 0.0318

2 -3.90% 10 0.0282

3 -3.70% 15 0.0230

4 -3.50% 20 0.0187

5 -3.00% 17 0.0212
 6 -2.90% 28 0.0135

7 -2.60% 32 0.0115

8 -2.50% 18 0.0203

9 -2.40% 55 0.0045

10 -2.30% 62 0.0034
The value at risk measure for the fifth percentile using the hybrid approach is closest to:

✗ A) -4.10%.

✗ B) -3.90%.
✓ C) -4.04%.
✗ D) -4.30%.

Explanation

The lowest and second lowest returns have cumulative weights of 3.18% and 6.00%, respectively. The point halfway
between the two lowest returns is interpolated as -4.10% with a cumulative weight of 4.59% calculated as follows:
-4.10% = (-4.30%+ -3.90%)/2; 4.59% = (3.18%+6.00%)/2. Further interpolation is required to find the fifth percentile
VAR level with a return somewhere between -3.90% and -4.10%. The 5% VAR using the hybrid approach is
calculated as: 4.10% - (4.10% - 3.90%)[(0.05 - 0.0459)/(0.06 - 0.0459)] = 4.10% - 0.20%[0.2908] = 4.04%.

l= 0.96

K= 100

Ten Lowest Number of Past Hybrid Cumulative

Rank Hybrid Weight
Returns Periods Weight

1 -4.30% 7 0.0318 0.0318

2 -3.90% 10 0.0282 0.0600

3 -3.70% 15 0.0230 0.0830

4 -3.50% 20 0.0187 0.1017

5 -3.00% 17 0.0212 0.1229

6 -2.90% 28 0.0135 0.1364

7 -2.60% 32 0.0115 0.1479

8 -2.50% 18 0.0203 0.1682

9 -2.40% 55 0.0045 0.1727

10 -2.30% 62 0.0034 0.1761

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Question #5 of 66 Question ID: 439311

If the expected change in a fixed income portfolio is $520,000 and the standard deviation of the estimated change in
the portfolio is $2,275,500, the 95 percent value-at-risk (VAR) for this portfolio is closest to:

✗ A) $3,743,197.50.

✗ B) $855,400.00.

✗ C) $4,598,597.50.

✓ D) $3,223,197.50.

Explanation

VAR for this portfolio would be -[$520,000 - 1.645($2,275,500)] = $3,223,197.50.

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Question #6 of 66 Question ID: 439323

The minimum amount of money that one could expect to lose with a given probability over a specific period of time is
the definition of:

✗ A) the coefficient of variation.

✗ B) the hedge ratio.

✗ C) delta.

✓ D) value at risk (VAR).

Explanation

This is an often-used definition of VAR.

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Question #7 of 66 Question ID: 439318

Which of the following statements about value at risk (VAR) is TRUE?

✓ A) VAR increases with longer holding periods.

 ✗ B) VAR decreases with lower probability levels.

✗ C) VAR is not dependent on the choice of holding period.

✗ D) VAR is independent of probability level.

Explanation

VAR measures the amount of loss in the left tail of the distribution. It increases with lower probability levels and
increases in holding period.

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Question #8 of 66 Question ID: 439317

A portfolio comprises 2 stocks: A and B. The correlation of returns of stocks A and B is 0.8. Based on the information
below, compute the portfolio's annual VAR at a 5 percent probability level.

Stock Value E(R) σ

A $75,000 12.0% 15.0%

B $25,000 10.8% 10.0%

✗ A) $13,300.
✓ B) $10,295.

✗ C) $23,491.
✗ D) $11,700.

Explanation

Weight of stock A = WA=0.75; Weight of stock B = WB = 0.25

Expected Portfolio return = E(RP) = 0.75(12)+0.25(10.8) = 11.70%

Portfolio Standard deviation =

sP = [(WA)2(sA)2+ (WB)2(sB)2+2(WA)(WB)rABsAsB]0.5
= [(0.75)2(0.15)2+(0.25)2(0.10)2+2(0.75)(0.25)(0.8)(0.15)(0.10)]0.5

= (0.0178)0.5

= 13.33%

VAR = Portfolio value [E(R)-zs]

= 100,000[0.117 - (1.65)(0.1333)] = -$10,295

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Question #9 of 66 Question ID: 738648

On December 31, 2006, Portfolio A had a market value of $2,520,000. The historical standard deviation of daily
returns was 1.7%. Assuming that Portfolio A is normally distributed, calculate the daily VAR(2.5%) on a dollar basis
and state its interpretation. Daily VAR(2.5%) is equal to:

✗ A) $83,966, implying that daily portfolio losses will fall short of this amount 2.5% of the time.

✓ B) $83,966, implying that daily portfolio losses will only exceed this amount 2.5% of the time.

✗ C) $70,686, implying that daily portfolio losses will fall short of this amount 2.5% of the time.

✗ D) $70,686, implying that daily portfolio losses will only exceed this amount 2.5% of the time.

Explanation

VAR(2.5%)Percentage Basis = z2.5% × σ = 1.96(0.017) = 0.03332 = 3.332%.

VAR(2.5%)Dollar Basis = VAR(2.5%)Percentage Basis × portfolio value = 0.03332 × $2,520,000 = $83,966.

The appropriate interpretation is that on any given day, there is a 2.5% chance that the porfolio will experience a loss
greater than $83,996. Alternatively, we can state that there is a 97.5% chance that on any given day, the observed
loss will be less than $83,996.

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Question #10 of 66 Question ID: 439313

Super Hedge fund has $20 million in assets. The total return for the past 40 months is given below. What is the
monthly value at risk (VAR) of the portfolio at a 5 percent probability level?

Monthly Returns
-22.46% 9.26% -4.69% -20.66% -2.77% 1.17% -16.11% -6.73%

0.57% 12.56% -18.26% -32.81% 24.15% -34.26% -5.49% -19.76%

 -34.75% -12.02% 32.74% -31.35% 13.68% -31.13% 7.07% -33.56%

-20.37% 30.27% 31.09% -3.26% -14.42% 4.75% 15.63% -11.57%

7.23% -20.77% -19.61% -2.42% -30.59% 28.83% -22.25% -10.26%

✗ A) $7,200,000.

✓ B) $6,852,000.

✗ C) $9,000,000.
✗ D) $16,725,000.

Explanation

Sorted monthly returns (from low to high, in columns) are as follows:

-34.75% -31.35% -22.25% -19.61% -11.57% -4.69% 0.57% 6.35%

-34.26% -31.13% -20.77% -18.26% -10.26% -3.26% 0.95% 7.07%

-33.56% -30.59% -20.66% -16.11% -6.73% -2.83% 1.17% 7.23%

-33.16% -23.08% -20.37% -14.42% -6.37% -2.77% 1.58% 8.35%

-32.81% -22.46% -19.76% -12.02% -5.49% -2.42% 4.75% 9.26%

The 5% lowest return is the 2 nd
value (2/40 = 0.05), which is -34.26%%
Therefore 5% VAR for the portfolio = 0.3426*$20,000,000 = $6,852,000

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Question #11 of 66 Question ID: 439293

A distribution of asset returns that has a significantly higher probability of obtaining large losses is described as:

✗ A) right skewed.
✗ B) thin-tailed.

✓ C) left skewed.

✗ D) symmetrical.

Explanation

A distribution is left skewed when the distribution is asymmetrical and there is a higher probability of large negative
returns than there is for large positive returns.

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Question #12 of 66 Question ID: 439331

When would a Monte Carlo simulation be preferable to a historical simulation?

✗ A) A large amount of historical data is available.

✗ B) Insufficient computer capacity.

✗ C) Historical data does not produce favorable results.
✓ D) There is only a small amount of historical data.

Explanation

Historical simulation is most applicable if there is a large sample of past returns to draw from. The computer capacity
necessary for each is about the same, and certainly the occurrence of unfavorable results is no reason to reject
historical simulation.

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Question #13 of 66 Question ID: 439309

Many analysts prefer to use Monte Carlo simulation rather than historical simulation because:

✗ A) computers can manipulate theoretical data much more quickly than historical data.

✓ B) past distributions cannot address changes in correlations or events that have not happened
before.

✗ C) past data is often proprietary and difficult to obtain.

✗ D) it is much easier to generate the required variables.

Explanation

While the past is often a good predictor of the future, simulations based on past distributions are limited to reflecting changes
and events that actually occurred. Monte Carlo simulation can be used to model based on parameters that are not limited to
past experience.

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Question #14 of 66 Question ID: 439341

The price value of a basis point (PVBP) of a $20 million bond portfolio is $25,000. Interest rate changes over the next
one year are summarized below:

Change in Interest rates Probability

>+2.50% 1%

+2.00-2.49% 4%

0.00-1.99% 50%

-0.99-0.00% 40%

<-1.00% 5%

Compute VAR for the bond portfolio at 95 percent confidence level.

✗ A) $12,500.

✗ B) $2,500,000.

✓ C) $5,000,000.

✗ D) $2,750,000.

Explanation

At 5% probability level change in interest rates is 2.00% or higher.

Change in Portfolio value for 200 bps change in interest rate = 200*$25,000
VAR = $5,000,000.

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Question #15 of 66 Question ID: 439304

Which value at risk methodology is most subject to model risk?

✓ A) Monte Carlo simulation.

✗ B) Parametric.

✗ C) Historical.
 ✗ D) Variance/covariance.

Explanation

Monte Carlo simulation is subject to model risk.

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Question #16 of 66 Question ID: 439297

A large bank currently has a security portfolio with a market value of $145 million. The daily returns on the bank's
portfolio are normally distributed with 80% of the distribution lying within 1.28 standard deviations above and below
the mean and 90% of the distribution lying within 1.65 standard deviations above and below the mean. Assuming the
standard deviation of the bank's portfolio returns is 1.2%, calculate the VAR(5%) on a one-day basis.

✓ A) $2.87 million.

✗ B) $2.23 million.

✗ C) cannot be determined from information given.

✗ D) $2.04 million.

Explanation

VAR(5%) = z5% × σ × portfolio value

= 1.65 × 0.012 × $145 million
= $2.871 million

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Question #17 of 66 Question ID: 439302

The accuracy of a value at risk (VAR) measure:

 ✗ A) is included in the statistic.
✓ B) can only be ascertained after the fact.

✗ C) is one minus the probability level.

✗ D) is complete because the process is deterministic.

Explanation

This is a weakness of VAR. The reliability can only be known after some time has passed to see if the number and
size of the losses is congruent with the VAR measure.

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Question #18 of 66 Question ID: 439326

The most important way in which the Monte Carlo approach to estimating operational VAR differs from the historical
method and variance-covariance method is:

✗ A) its heavy dependence on historical data.

✗ B) its computational simplicity.

✓ C) it involves repeatedly shocking a model of risk data to produce a range of potential losses.

✗ D) its inability to account for non-linear risk structures.

Explanation

The Monte Carlo approach uses simulation techniques, repeatedly shocking a model of loss data in order to produce
a range of potential losses. It is more computationally intensive than either the historical or variance-covariance
approaches. The model used can account for nonlinear risk structures and need not be limited by historical data.

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Question #19 of 66 Question ID: 439328

A portfolio comprises 2 stocks: A and B. The correlation of returns of stocks A and B is 0.4. Based on the information
below, what is the portfolio's value-at-risk (VAR) at a 5 percent probability level?
 Stock Value E(R) σ

A $85,000 15.0% 18.0%

B $15,000 12.0% 10.0%

✗ A) $13,300.
✗ B) $23,491.

✗ C) $1,410.

✓ D) $11,784.

Explanation

Weight of stock A = WA= 0.85; Weight of stock B = WB = 0.15

Expected Portfolio return = E(RP) = 0.85(15)+0.15(12) = 14.55%

Portfolio Standard deviation =

sP = [(WA)2(sA)2+ (WB)2(sB)2+2(WA)(WB)rABsAsB]0.5
= [(0.85)2(0.18)2+(0.15)2(0.10)2+2(0.85)(0.15)(0.4)(0.18)(0.10)]0.5

= (0.02547)0.5

= 15.96%

VAR = Portfolio value [E(R) - zs]

= 100,000[0.1455 - (1.65)(0.1596)] = -$11,784

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Question #20 of 66 Question ID: 439342

Which of the following are advantages of nonparametric methods compared to parametric methods for quantifying
volatility?
I. Nonparametric models require assumptions regarding the entire distribution of returns.
II. Data is used more efficiently with nonparametric methods than with parametric methods.
III. Fat tails, skewness, and other deviations from some assumed distribution are no longer a concern in the
estimation process for nonparametric methods.
IV. Multivariate density estimation (MDE) allows for weights to vary based on how relevant the data is to the current
market environment by weighting the most recent data more heavily.
 ✗ A) I and III.
✗ B) III and IV.

✓ C) III only.
✗ D) I and II.

Explanation

Fat tails, skewness, and other deviations from some assumed distribution are no longer a concern in the estimation
process for nonparametric methods. The other statements are incorrect for the following reasons:

Nonparametric models do not require assumptions regarding the entire distribution of returns.
Data is used more efficiently with parametric methods than nonparametric methods.
MDE allows for weights to vary based on how relevant the data is to the current market environment regardless
of the timing of the most relevant data. MDE is also very flexible in introducing dependence on state variables.

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Question #21 of 66 Question ID: 439349

Which of the following are true about the RiskMetrics, GARCH, and historical standard deviation approaches to
estimate conditional volatility?

I. RiskMetrics and historical standard deviation assume equal weights on all observations.
II. RiskMetrics and GARCH are parametric models: historical standard deviation is not.
III. A decreasing λ suggests a higher relative weight on the most recent data for exponential smoothing models.
IV. The most recent weight for GARCH exceeds the most recent weight for historical standard deviation, assuming
the same high number of observations.

✗ A) I, II, and IV only.

✗ B) II and III only.

✓ C) III and IV only.

✗ D) II, III, and IV only.

Explanation

RiskMetrics does not assign equal weights across observations. Historical standard deviation is a parametric model.

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Question #22 of 66 Question ID: 439353

Which of the following statements regarding volatility in VAR models are TRUE? I. The RiskMetricsTM approach is
very similar to the GARCH model. II. The historical standard deviation approach creates a variance-covariance
matrix that is estimated under the assumption that all asset returns are normally distributed. III. The parametric
approach typically assumes asset returns are normally or lognormally distributed with constant volatility. IV.
Exponential smoothing methods and the historical standard deviation methods both apply a set of weights to recent
past squared returns.

✗ A) I, II, and III.

✓ B) I, II, and IV.

✗ C) I, III, and IV.
✗ D) II, III, and IV.

Explanation

The third statement is false. The parametric approach typically assumes asset returns are normally or lognormally
distributed with time-varying volatility. The RiskMetricsTM approach is actually a special case of the GARCH model.
Both the exponential and historical standard deviation approaches create a variance-covariance matrix that is
estimated under the assumption that all asset returns are normally distributed. Exponential smoothing methods and
the historical standard deviation methods both apply a set of weights to recent past squared returns. The difference
is that in the historical standard deviation method all weights are equal whereas more recent returns are weighted
more heavily in exponential methods.

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Question #23 of 66 Question ID: 439340

One advantage of the Monte Carlo simulation approach over the historical method when calculating VAR is the
simulation approach:

✗ A) equates past performance to future results.

✓ B) incorporates flexibility in modeling price paths.

✗ C) takes advantage of the normal distribution.

✗ D) makes better use of computing power.

Explanation
The Monte Carlo approach allows for whatever relationships the VAR modeler would like to take into account. It is
the most flexible method for generating VAR.

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Question #24 of 66 Question ID: 439298

You wish to estimate VAR using a local valuation method. Which of the following are methods you might use?
I. Historical simulation.
II. The delta-normal valuation method.
III. Monte Carlo simulation.
IV. The grid Monte Carlo approach.

✗ A) III and IV only.

✓ B) II only.

✗ C) I only.

✗ D) I and II only.

Explanation

Local valuation methods measure portfolio risk by valuing the assets at one point in time, then making adjustments
to relevant risk factors that are expected to cause changes in the overall portfolio value. The delta-normal valuation
method is an example of a local valuation method.

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Question #25 of 66 Question ID: 439338

If a 1-day 95 percent VAR is $5 million, the 250-day 99 percent VAR level would be closest to:

✗ A) $55.89 million.

✗ B) $21.00 million.

✗ C) $83.84 million.
✓ D) $111.79 million.
Explanation

First it is necessary to adjust for confidence levels (2.326/1.645), then by days (√250). In this case, ($5 million)
(2.326/1.645)(√250) = $111.79 million.

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Question #26 of 66 Question ID: 525569

Kiera Reed is a portfolio manager for BCG Investments. Reed manages a $140,000,000 portfolio consisting of 30
percent European stocks and 70 percent U.S. stocks. If the VAR(1%) of the European stocks is 1.93 percent, or
$810,600, the VAR(1%) of U.S. stocks is 2.13 percent, or $2,087,400, and the correlation between European and
U.S. stocks is 0.62, what is the portfolio VAR(1%) on a percentage and dollar basis?

✗ A) 1.90% and $2.90 million.

✓ B) 1.90% and $2.67 million.

✗ C) 2.07% and $2.90 million.

✗ D) 2.07% and $2.67 million.

Explanation

VAR for the portfolio on a percentage and dollar basis is calculated as follows:

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Question #27 of 66 Question ID: 439362

All of the following are appropriate methods for addressing return aggregation in volatility forecasting methods
EXCEPT:
 ✗ A) for well-diversified portfolios, the strong law of large numbers is required to estimate the
volatility of the vector of aggregated returns.

✓ B) the RiskMetricsTM approach creates a variance-covariance matrix that is estimated under

the assumption that volatility is constant over time.

✗ C) the historical simulation approach weights returns based on market values today,
regardless of the actual allocation of positions K days ago.

✗ D) the historical standard deviation approach creates a variance-covariance matrix that is

estimated under the assumption that all asset returns are normally distributed.

Explanation

Both the RiskMetricsTM and the historical standard deviation approach create variance-covariance matrices that are
estimated under the assumption that all asset returns are normally distributed. A major disadvantage of this
approach is the number of calculations required to estimate VAR.

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Questions #28-29 of 66

λ = 0.97
K = 150

Rank Ten Lowest Number of Hybrid Weight Hybrid Cumulative

Returns Past Periods Weight

1 -4.10% 5 0.0268 0.0268

2 -3.80% 7 0.0253 0.0521

3 -3.50% 21 0.0165 0.0686

4 -3.20% 13 0.0210 0.0896

5 -3.10% 28 0.0133 0.1029

6 -2.90% 55 0.0059 0.1088

7 -2.80% 28 0.0133 0.1221

8 -2.60% 28 0.0133 0.1354

9 -2.55% 28 0.0133 0.1487

10 -2.40% 55 0.0059 0.1546

Question #28 of 66 Question ID: 439360

The VAR measure for the fifth percentile using the historical simulation approach is closest to:

✗ A) -3.90%.

✓ B) -2.70%.
✗ C) -3.80%.

✗ D) -3.10%.

Explanation

Under the historical simulation approach, all returns in the estimation window are equally weighted. In this example,
K = 150; therefore, each return has a weight of 1 / 150 = .666667%, as shown in the following table. The fifth
percentile is somewhere between -2.80% and -2.60%. The midpoint -2.70% has a cumulative weight of 5.00%
(5.00% = (4.67% + 5.33%) / 2). If the midpoint did not have a cumulative weight of exactly 5.00%, interpolation would
be necessary to find the fifth percentile.

Ten Lowest Historical Simulation HS Cumulative

Returns Weight Weight

-4.10% 0.00666667 0.0067

-3.80% 0.00666667 0.0133

-3.50% 0.00666667 0.0200

-3.20% 0.00666667 0.0267

-3.10% 0.00666667 0.0333

-2.90% 0.00666667 0.0400

-2.80% 0.00666667 0.0467

-2.60% 0.00666667 0.0533

-2.55% 0.00666667 0.0600

-2.40% 0.00666667 0.0667

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Question #29 of 66 Question ID: 439361

The VAR measure for the fifth percentile using the hybrid approach is closest to:
 ✗ A) -3.80%.
✓ B) -3.82%.

✗ C) -4.10%.
✗ D) -3.10%.

Explanation

The lowest and second lowest returns have cumulative weights of 2.68% and 5.21%, respectively. The point halfway
between the two lowest returns is interpolated as -3.95% with a cumulative weight of 3.945%, calculated as follows:
(2.68% + 5.21%) / 2. Further interpolation is required to find the fifth percentile VAR level with a return somewhere
between -3.80% and -3.95%. The 5 percent VAR using the hybrid approach is calculated as:

3.95% - (3.95% - 3.80%)[(0.05 - 0.03945) / (0.0521 - 0.03945)] = 3.95% - 0.15%[0.8340] = 3.8249%

Notice that the answer has to be between -3.8% and -3.95%, so -3.82 is the only possible answer.

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Question #30 of 66 Question ID: 439301

A portfolio manager determines that his portfolio has an expected return of $20,000 and a standard deviation of $45,000.
Given a 95 percent confidence level, what is the portfolio's VAR?

✗ A) $74,250.

✗ B) $43,500.

✓ C) $54,250.

✗ D) $94,250.

Explanation

The expected outcome is $20,000. Given the standard deviation of $45,000 and a z-score of 1.65 (95% confidence level for a
one-tailed test), the VAR is -54,250 [=20,000 - 1.65 (45,000)].

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Questions #31-32 of 66

Communities Bank has a $17 million par position in a bond with the following characteristics:

The bond is a 7-year, zero-coupon bond.

The market value is $12,358,674.

The bond is trading at a yield to maturity of 4.6%.

The historical mean change in daily yield is 0.0%.

The standard deviation of the position is 1%.

Question #31 of 66 Question ID: 439344

The one-day VAR for this bond at the 95% confidence level is closest to:

✗ A) $105,257.

✓ B) $203,918.

✗ C) $339,487.

✗ D) $260,654.

Explanation

VAR is the market value of the position times the price volatility of the position times the confidence level, which in
this case equals ($12,358,674) × (0.01) × (1.65) = $203,918.

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Question #32 of 66 Question ID: 439345

The 10-day VAR on this bond is closest to:

✓ A) $644,845

✗ B) $736,487.
✗ C) $866,111.
✗ D) $487,698.

Explanation

The VAR is calculated as the daily earnings at risk times the square root of days desired, which is 10. The calculation
generates ($203,918)(√10) = $644,845.

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Question #33 of 66 Question ID: 439300

Hugo Nelson is preparing a presentation on the attributes of value at risk. Which of Nelson's following statements is
not correct?

✓ A) VAR(1%) can be interpreted as the number of days that a loss in portfolio value will exceed
1%.

✗ B) VAR can account for the diversified holdings of a financial institution, reducing capital
requirements.

✗ C) VAR(10%) = $0 indicates a positive dollar return is likely to occur on 90 out of 100 days.
✗ D) VAR was developed in order to more closely represent the economic capital necessary to
ensure commercial bank solvency.

Explanation

VAR is defined as the dollar or percentage loss in portfolio value that will be exceeded only X% of the time.
VAR(10%) = $0 indicates that there is a 10% probability that on any given day the dollar loss will be greater than $0.
Alternatively, we can say there is a 90% probability that on any given day the dollar gain will be greater than $0. VAR
was developed by commercial banks to provide a more accurate measure of their economic capital requirements,
taking into account the effects of diversification.

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Question #34 of 66 Question ID: 439292

When comparing a fat-tailed distribution to an otherwise similar normal distribution, the fat-tailed distribution often
has:

✓ A) a lower probability mass at around one standard deviation.

✗ B) a different mean and standard deviation.

✗ C) a lower probability mass at more than three standard deviations.

✗ D) an equal probability mass close to the mean.

Explanation

Fat-tailed distributions typically have less probability mass in the intermediate range, around +/- one standard
deviation, compared to the normal distribution. The first two moments (mean and variance) of the distributions are
similar for the fat-tailed and normal distributions. Fat-tailed distributions have greater mass in the tails and a greater
probability mass around the mean than the normal distribution.

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Question #35 of 66 Question ID: 439322

A global portfolio is comprised of European and Emerging market equities. The correlation of returns for the two
sectors is 0.3. Based on the information below, what is the portfolio's annual value at risk (VAR) at a 5 percent
probability level?

Stock Value E(R) σ

European $800,000 9.0% 15.0%
Emerging $200,000 18.0% 25.0%

✗ A) $130,300.

✗ B) $230,491.

✓ C) $128,280.

✗ D) $110,700.

Explanation

Weight of European equities = WA=0.80; Weight of Emerging = WB = 0.20

Expected Portfolio return = E(RP) = 0.8(9)+0.2(18) = 10.80%

Portfolio Standard deviation =

σP = [(WA)2(σA)2+ (WB)2(σB)2+2(WA)(WB)rABσAσB]0.5

= [(0.8)2(0.15)2+(0.2)2(0.25)2+2(0.8)(0.2)(0.3)(0.15)(0.25)]0.5

= (0.0205)0.5

= 14.32%

VAR = Portfolio Value[E(R) - zσ]

= 1,000,000[0.108 - (1.65)(0.1432)] = -$128,280.

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Question #36 of 66 Question ID: 439356

Which of the following approaches is the most restrictive regarding the underlying assumption of the asset return
distribution?

✗ A) nonparametric.

✓ B) parametric.
✗ C) hybrid.

✗ D) multivariate density estimation.

Explanation

A parametric model typically assumes asset returns are normally or lognormally distributed with time-varying
volatility. The other approaches do not require assumptions regarding the underlying asset return distribution.

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Question #37 of 66 Question ID: 439339

For a $1,000,000 stock portfolio with an expected return of 12 percent and an annual standard deviation of 15
percent, what is the VAR with 95 percent confidence level?

✗ A) $150,000.
✓ B) $127,500.
✗ C) $120,000.

✗ D) $247,500.

Explanation

VAR = Portfolio Value[E(R)-zσ]= 1,000,000[0.12 - (1.65)(0.15)] = -$127,500

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Question #38 of 66 Question ID: 439303

Which of the common methods of computing value at risk relies on the assumption of normality?

✗ A) Historical.

✓ B) Variance/covariance.

✗ C) Monte Carlo simulation.

✗ D) Rounding estimation.

Explanation

The variance/covariance method relies on the assumption of normality.

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Question #39 of 66 Question ID: 439350

Which of the following is (are) an advantage(s) of nonparametric methods compared to parametric methods for
quantifying volatility?
I. Nonparametric models require assumptions regarding the entire distribution of returns.
II. Data is used more efficiently with nonparametric methods than parametric methods.
III. Fat tails, skewness and other deviations from some assumed distribution are no longer a concern in the
estimation process for nonparametric methods.
IV. Multivariate density estimation (MDE) allows for weights to vary based on how relevant the data is to the current
market environment by weighting the most recent data more heavily.

✗ A) III and IV.

✗ B) I and III.
✗ C) I and II.

✓ D) III only.

Explanation

Fat tails, skewness, and other deviations from some assumed distribution are no longer a concern in the estimation
process for nonparametric methods. The other statements are false for the following reasons. Nonparametric models
do not require assumptions regarding the entire distribution of returns. Data is used more efficiently with parametric
methods than nonparametric methods. Multivariate density estimation (MDE) allows for weights to vary based on
how relevant the data is to the current market environment, regardless of the timing of the most relevant data. MDE
is also very flexible in introducing dependence on state variables.

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Question #40 of 66 Question ID: 656216

Consider the following EWMA models that are used to estimate daily return volatility. Which model's volatility
estimates will have the most day-to-day volatility, and which model will be the slowest to respond to new data,
respectively?

Model 1: σn2 = 0.04μn − 12 + 0.96σn − 12

Model 2: σn2 = 0.02μn − 12 + 0.98σn − 12
Model 3: σn2 = 0.20μn − 12 + 0.80σn − 12
Model 4: σn2 = 0.10μn − 12 + 0.90σn − 12

Greatest day-to-day Slowest to respond to

volatility new data

✗ A) Model 2 Model 3

✗ B) Model 1 Model 4

✗ C) Model 2 Model 2

✓ D) Model 3 Model 2

Explanation

The form of the basic EWMA model is σn2 = (1 − λ)μn − 12 + λσn − 12, where λ is the weight on the previous volatility
estimate. EWMA models with a low value for λ (Model 3) will put more weight on the previous day's return and will
lead to volatility estimates that in themselves are highly volatile from day to day. EWMA models with a high value for
λ (close to 1, such as Model 2) will put less weight on the previous day's return, and the model will respond more
slowly to new data.

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Question #41 of 66 Question ID: 439319

Which of the following statements about value at risk (VAR) is TRUE?

 ✗ A) VAR is not dependent on the choice of holding period.
✗ B) VAR is independent of probability level.

✗ C) VAR decreases with longer holding periods.

✓ D) VAR decreases with lower confidence level.

Explanation

VAR measures the amount of loss in the left tail of the distribution and increases with lower probability levels.
Conversely VAR decreases with lower confidence levels (which is 1 minus the probability level). VAR actually
increases with increases in holding period.

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Question #42 of 66 Question ID: 439321

Derivation Inc. has a portfolio of $100 MM. The expected return over one year is 6 percent, with a standard deviation
of 8 percent. What is the VAR for this portfolio at the 99 percent confidence level?

✗ A) $2.0 MM.

✓ B) $12.6 MM.

✗ C) $7.2 MM.
✗ D) $12.1 MM.

Explanation

VAR = $100 MM [0.06 - (2.326)(0.08)] = $12.608 MM

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Question #43 of 66 Question ID: 439291

Which of the following deviations from normality always leads to underestimating the distribution variance?

I. Higher probability of high returns.

II. Higher probability of mean returns.
III. The mean of the distribution is conditional on the economic environment.
IV. The variance of the distribution is conditional on the economic environment.

✗ A) I, II, and IV only.

✗ B) III only.

✓ C) II only.
✗ D) III and IV only.

Explanation

Statements I leads to an overestimate of variance. Statement III suggests no change since it is not likely, in an
efficient market, that conditional means vary enough to make a difference over time. Statement IV leads to over or
under estimates of the variance.

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Question #44 of 66 Question ID: 439327

A portfolio manager is constructing a portfolio of stocks and corporate bonds. The portfolio manager has estimated
that stocks and corporate bond returns have daily standard deviations of 1.8% and 1.1%, respectively, and estimates
a correlation coefficient of returns of 0.43. If the portfolio manager plans to allocate 35% of the portfolio to corporate
bonds and the rest to stocks, what is the daily portfolio VAR (2.5%) on a percentage basis?

✗ A) 3.05%.

✓ B) 2.71%.

✗ C) 2.57%.

✗ D) 2.27%.

Explanation

First, calculate the standard deviation of the portfolio:

[0.652(0.0182) + 0.352(0.0112) + 2(0.35)(0.65)(0.018)(0.011)(0.43)]0.5 = 1.38%

Next calculate the portfolio VAR:

z2.5% × σ = 1.96(0.0138) = 2.71%

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Question #45 of 66 Question ID: 439305

Which of the following statements comparing Monte Carlo VaR and historical VaR is most accurate?

✗ A) Both are parametric approaches, but Monte Carlo VaR uses fewer inputs into the model
than historical VaR.

✗ B) Both compute VaR from percentiles from a given set of observed returns, but Monte Carlo
VaR uses realized returns and historical VaR uses hypothetical returns.

✓ C) Both compute VaR from percentiles from a given set of observed returns, but historical
VaR uses realized returns and Monte Carlo VaR uses hypothetical returns.

✗ D) Both are parametric approaches, but historical VaR uses a regression on past data while
Monte Carlo VaR uses Kalman filtering to create forward looking VaR estimates.

Explanation

Historical VaR uses historical realized returns, and Monte Carlo VaR uses returns generated from a hypothetical
model, which requires a significant number of inputs. Neither historical nor Monte Carlo VaR is a parametric
approach.

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Question #46 of 66 Question ID: 439358

Using both RiskMetrics and historical standard deviation, calculate the K-value that equates the most recent weight
between the two models. Assume λ is 0.98.

✗ A) K = 98.
✗ B) K = 51.
✓ C) K = 50.

✗ D) K = 30.

Explanation

(1 − λ) λt = (1 − 0.98)(0.98)0 = 0.02; 1/K = 0.02, K = 50.

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Question #47 of 66 Question ID: 439337

Annual volatility: σ = 20.0%

Annual risk-free rate = 6.0%

Exercise price (X) = 24

Time to maturity = 3 months

Stock price, S $21.00 $22.00 $23.00 $24.00 $24.75 $25.00

Value of call, C $0.13 $0.32 $0.64 $1.14 $1.62 $1.80

% Decrease in S −16.00% −12.00% −8.00% −4.00% −1.00%

% Decrease in C −92.83% −82.48% −64.15% −36.56% −9.91%

Delta (ΔC% / ΔS%) 5.80 6.87 8.02 9.14 9.91

Alton Richard is a risk manager for a financial services conglomerate. Richard generally calculates the VAR of the
company's equity portfolio on a daily basis, but has been asked to estimate the VAR on a weekly basis assuming five
trading days in a week. If the equity portfolio has a daily standard deviation of returns equal to 0.65% and the
portfolio value is $2 million, the weekly dollar VAR (5%) is closest to:

✗ A) $29,100.
✓ B) $47,964.

✗ C) $107,250.
✗ D) $21,450.

Explanation

The weekly VAR is 2 million × 1.65 × 0.0065 × √5 = $47,964.

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Question #48 of 66 Question ID: 439308

The VaR measure obtained from simulating data based on assumptions concerning the return distributions is called:

✗ A) Kurtotic VaR.

✓ B) Monte Carlo VaR.

 ✗ C) Prospective VaR.

✗ D) Stochastic VaR.

Explanation

Monte Carlo VaR uses data generated from a simulation procedure.

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Question #49 of 66 Question ID: 439306

Which of the following statements about value at risk (VAR) is TRUE?

✗ A) VAR is independent of probability level.

✓ B) VAR increases with lower signifiance levels.

✗ C) VAR is not dependent on the choice of holding period.

✗ D) VAR decreases with longer holding periods.

Explanation

VAR measures the amount of loss in the left tail of the distribution and increases with lower signifiance levels. VAR
actually increases with increases in holding period.

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Question #50 of 66 Question ID: 439324

Alto Steel's pension plan has $250 million in assets with an expected return of 12 percent. The last thirty monthly
returns are given below.
What is the 10 percent monthly probability VAR for Alto's pension plan?

21.84% -21.50% 31.76% 8.88% 2.54% 17.44%

6.97% 10.00% 2.71% 35.66% 31.07% 18.56%

9.82% -7.94% -0.78% 12.57% 11.77% 8.47%

2.99% 14.35% 14.20% 9.81% 11.03% 22.25%

 9.68% 19.55% 8.53% 39.45% 36.15% 10.97%

✓ A) $1,950,000.

✗ B) $36,125,850.
✗ C) $3,000,000.

✗ D) $1,200,000.

Explanation

Sorted monthly returns (from low to high, in columns) are as follows:

-21.50% 2.99% 9.68% 11.03% 17.44% 31.07%

-7.94% 6.97% 9.81% 11.77% 18.56% 31.76%

-0.78% 8.47% 9.82% 12.57% 19.55% 35.66%

2.54% 8.53% 10.00% 14.20% 21.84% 36.15%

2.71% 8.88% 10.97% 14.35% 22.25% 39.45%

The 10% lowest return is the 3rd value (3/30 = 0.10), which is -0.78%
Therefore 10% VAR for the portfolio = 0.0078*250,000,000 = 1,950,000

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Question #51 of 66 Question ID: 439332

Which of the following statements most accurately describes the pitfalls of VAR estimation methods?
I. The Monte Carlo simulation method is subject to model risk.
II. The historical simulation method is subject to time-variation risk.
III. The delta-normal method will underestimate the VAR for fat-tailed distributions.

✓ A) I, II and III.

✗ B) I only.
✗ C) I and II.
✗ D) II and III.

Explanation

Statements I, II, and III are correct.

Disadvantages of Monte Carlo simulation include:

 model risk;
sampling variation if replications are small;
and computational time and skill.

Disadvantages of the historical simulation method include:

lack of historical data;

use of actual data;
time variation risk;
inability to recognize structural change;
and it may not be able to sufficiently define the distributions tails.

Disadvantages of the delta-normal method include:

normality assumption results in VAR estimates that understate true VAR for distributions with fat tails;
and it isn't able to accurately estimate VAR for portfolios with nonlinear characteristics (i.e., portfolios with option-
like positions).

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Question #52 of 66 Question ID: 439355

The historical standard deviation approach differs from the RiskMetricsTM and GARCH approaches for estimating
conditional volatility, because it:

✗ A) is a parametric method.

✓ B) places a lower weight on more recent data.

✗ C) applies a set of weights to past squared returns.

✗ D) uses recent historical data.

Explanation

All three methods are parametric, use historical data, and apply weights to past squared returns. The historical
standard deviation approach weighs all returns in the estimation window equally. The RiskMetricsTM and GARCH
approaches are exponential smoothing approaches that place a higher weight on more recent data.

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Question #53 of 66 Question ID: 439334

If the one-day value at risk (VaR) of a portfolio is $50,000 at a 95% probability level, this means that we should
expect that in one day out of:

✗ A) 95 days, the portfolio will lose $50,000.

✗ B) 20 days, the portfolio will decline by $50,000 or less.

✗ C) 95 days, the portfolio will increase by $50,000 or more.

✓ D) 20 days, the portfolio will decline by $50,000 or more.

Explanation

A 95% one-day portfolio value at risk (VaR) of $50,000 means that in 5 out of 100 (or one out of 20) days, the value
of the portfolio will experience a loss of $50,000 or more.

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Question #54 of 66 Question ID: 439296

A regime-switching volatility model of interest rates would assume all of the following EXCEPT:

✓ A) the unconditional distribution of interest rates is normally distributed.

✗ B) interest rates are conditionally normally distributed.

✗ C) the regime determines whether the volatility of interest rates is high or low.
✗ D) the mean is constant.

Explanation

A regime-switching volatility model assumes different market regimes exist with high or low volatility. The mean is
assumed constant, but the volatility depends on the regime. Conditional on the fact that interest rates are drawn
from one regime, the distribution is normally distributed. If interest rates are drawn from more than one regime, this
unconditional distribution need not be normally distributed.

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Question #55 of 66 Question ID: 895768

An insurance company currently has a security portfolio with a market value of $243 million. The daily returns on the
company's portfolio are normally distributed with a standard deviation of 1.4%. Using the table below, determine
which of the following statements are TRUE.

zcritical

Alpha One-tailed Two-tailed

10% 1.28 1.65

2% 2.06 2.32

I. One-day VAR(1%) for the portfolio on a percentage basis is equal to 3.25%.

II. One-day VAR(10%) for the portfolio on a dollar basis is equal to $5.61 million.
III. |One-day VAR(6%)| > |one-day VAR(10%)|.

✗ A) II and III only.

✓ B) I and III only.

✗ C) I only.

✗ D) I, II, and III.

Explanation

To find the appropriate zcritical value for the VAR(1%), use the two-tailed value from the table correspondnig to an
alpha level of 2%. Under a two-tailed test, half the alpha probability lies in the left tail and half in the right tail. Thus
the zcritical 2.32 is appropriate for VAR(1%). For VAR(10%), the table gives the one-tail zcritical value of 1.28. Calculate
the percent and dollar VAR measures as follows:

VAR(1%) = z1% × σ

= 2.32 × 0.014

= 0.03248 ≈ 3.25%

VAR(10%) = z10% × σ × portfolio value

= 1.28 × 0.014 × $243 million

= $4.35 million

Thus, Statement I is correct and Statement II is incorrect. For Statement III, recall that as the probability in the lower
tail decreases (i.e., from 10% to 6%), the VAR measure increases. Thus, Statement III is correct.

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Question #56 of 66 Question ID: 439312

Tim Jones is evaluating two mutual funds for an investment of $100,000. Mutual fund A has $20,000,000 in assets,
an annual expected return of 14 percent, and an annual standard deviation of 19 percent. Mutual fund B has
$8,000,000 in assets, an annual expected return of 12 percent, and an annual standard deviation of 16.5 percent.
What is the daily value at risk (VAR) of Jones' portfolio at a 5 percent probability if he invests his money in mutual
fund A?

✓ A) $1,924.

✗ B) $13,344.
✗ C) $38,480.

✗ D) $1,668.

Explanation

Daily standard deviation for mutual fund A = 0.19/√250= 0.012

Daily return = 0.14/250 = 0.00056
VAR = Portfolio Value [E(R)-zσ]
= 100,000[0.00056 - (1.65)(0.012)] = -$1,924.

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Question #57 of 66 Question ID: 439310

A hedge fund portfolio has an expected return of 0.1 percent per day and a 5 percent probability 1-day value at risk
(VAR) of $909. Which of the following statement is the best descriptor of this information?

✗ A) The maximum daily loss on the portfolio is $909.

✗ B) The minimum daily loss on the portfolio is $909.

✓ C) The minimum loss for the worst 5% of the days is $909.

✗ D) The portfolio will earn more than $909 only 5% of the time.

Explanation

By definition, VAR is the minimum loss for the worst 5% of the days or the maximum 1-day loss 95% of days. A
minimum or maximum daily loss on the portfolio of $909 does not incorporate the alpha (probability). Alternatively,
VAR can be stated in terms of confidence, e.g. in this case you could say you are 95% confident the one-day VAR
will not exceed $909.

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Question #58 of 66 Question ID: 439325

The price value of a basis point (PVBP) of a bond portfolio is $45,000. Expected changes in interest rates over the
next year are summarized below:

Change in Interest rates Probability

>+1.50% 1%
+1.00-1.49% 29%
0.00-0.99% 20%
-0.99-0.00% 45%
<-1.00% 5%

What is the value at risk (VAR) for the bond portfolio at a 99 percent confidence level?

✗ A) $7,850,500.

✓ B) $6,750,000.

✗ C) $2,250,000.

✗ D) $4,500,000.

Explanation

At 1% probability level change in interest rates is 1.50% or higher.

Change in Portfolio value for a 150 bps change in rates = 150*45000 = 6,750,000
VAR = 6,750,000.

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Question #59 of 66 Question ID: 439294

Which of the following statements regarding fat-tail distributions is (are) TRUE?

A fat-tailed distribution:

I. most likely results from time-varying volatility for the unconditional distribution.
II. has a lower probability mass around one standard deviation from the mean than a normal distribution.
III. has a lower probability mass around the mean than a normal distribution.
IV. most likely results from time-varying means for the conditional distribution.

✓ A) I and II.
✗ B) I and III.

✗ C) I only.

✗ D) II and IV.

Explanation

The most likely explanation for "fat tails" is that the second moment or volatility is time-varying. For example, volatility
changes in interest rates are observed prior to much anticipated Federal Reserve announcements. Examining a data
sample at different points of time from the full sample could generate fat tails in the unconditional distribution even if
the conditional distributions are normally distributed. The conditional mean is not expected to deviate over time. The
first two moments (mean and variance) of the distributions are similar for the fat-tailed and normal distribution.
However, fat-tailed distributions typically have less probability mass in the intermediate range, around +/-1 standard
deviation, compared to the normal distribution. Fat-tailed distributions have greater mass in the tails and a greater
probability mass around the mean than the normal distribution.

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Question #60 of 66 Question ID: 439333

Value at risk (VAR) is a benchmark associated with a given probability. The actual loss:

✓ A) may be much greater.

✗ B) will have an inverse relationship with VAR.

✗ C) cannot exceed this amount.

✗ D) is expected to be the average of the expected return of the portfolio and VAR.

Explanation

VAR is a benchmark that gives an estimate of what magnitude of loss would not be unusual. The actual loss for any
given time period can be much greater.

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Question #61 of 66 Question ID: 439329

The difference between a Monte Carlo simulation and a historical simulation is that a historical simulation uses randomly
selected variables from past distributions, while a Monte Carlo simulation:

✗ A) uses variables based on roulette odds.

✓ B) uses a computer to generate random variables.

✗ C) projects variables based on a priori principles.

✗ D) uses randomly selected variables from future distributions.

Explanation

A Monte Carlo simulation uses a computer to generate random variables from specified distributions.

References

Question From: Topic Area 4 > Topic 52 > LO 5

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Question #62 of 66 Question ID: 439336

An investor has 60 percent of his $500,000 portfolio in Value fund and the remaining in Growth fund. The correlation
of returns of the two funds is -0.20. Based on the information below, what is the portfolio's VAR at a 5 percent
probability level?

Fund E(R) σ

Value 12% 14.0%

Growth 16% 20.0%

✗ A) $26,768.
✓ B) $17,635.

✗ C) $82,368.

✗ D) $49,824.

Explanation

Weight of Value Fund = WV=0.60; Weight of Growth Fund = WG = 0.40

Expected Portfolio return = E(RP) = 0.60(12)+0.40(16) = 13.60%

Portfolio Standard deviation =

σP = [(WV)2(σV)2+ (WG)2(σG)2+2(WV)(WG)rVGσVσG]0.5
= [(0.60)2(0.14)2+(0.40)2(0.20)2+2(0.60)(0.40)(-0.2)(0.14)(0.20)]0.5

= (0.010768)0.5

= 10.38%

VAR = Portfolio Value [ E(R) -zσ]

= 500,000[0.1360 - (1.65)(0.1038)] = -$17,635.

References

Question From: Topic Area 4 > Topic 52 > LO 5

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Question #63 of 66 Question ID: 439295

All of the following are examples of why returns distributions can deviate from the normal distribution EXCEPT the
distributions:

✗ A) are fat tailed.

✗ B) have unstable parameters.

✓ C) are symmetrical.

✗ D) are skewed.

Explanation

Examples of common deviations from the normal distribution are fat tails and skewed and/or unstable parameters.
The normal distribution is symmetrical.

References

Question From: Topic Area 4 > Topic 52 > LO 2

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Question #64 of 66 Question ID: 439357

How many of the following statements about VAR methodologies is (are) TRUE?
I. The parametric approach is typically defined by the calculation of the distribution mean and variance.
II. The nonparametric approach has the advantage of no required asset distribution.
III. The implied-volatility based approach estimates volatility using current market prices.
IV. The GARCH approach is a parametric model that uses time varying weights on historic returns to calculate
distribution parameters.
 ✗ A) One statment is true.
✗ B) Three statements are true.

✓ C) All statements are true.

✗ D) Two statements are true.

Explanation

All of the statements are true.

References

Question From: Topic Area 4 > Topic 52 > LO 6

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Question #65 of 66 Question ID: 439335

Portfolio A has total assets of $14 million and an expected return of 12.50 percent. Historical VAR of the portfolio at 5
percent probability level is $2,400,000. What is the portfolio's standard deviation?

✓ A) 17.97%.

✗ B) 14.65%.

✗ C) 12.50%.

✗ D) 15.75%.

Explanation

VAR = Portfolio Value [E(R)-zσ]

-2,400,000 = 14,000,000[0.125 - (1.65)(X)]
-2,400,000 = 1,750,000 - 23,100,000(X)
X = 17.97%.
Note that VAR value is always negative.

References

Question From: Topic Area 4 > Topic 52 > LO 5

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Question #66 of 66 Question ID: 439314

A $2 million balanced portfolio is comprised of 40 percent stocks and 60 percent intermediate bonds. For the next
year, the expected return on the stock component is 9 percent and the expected return on the bond component is 6
percent. The standard deviation of the stock component is 18 percent and the standard deviation of the bond
component is 8 percent. What is the annual VAR for the portfolio at a 1 percent probability level if the correlation
between the stock and the bond component is 0.25?

✗ A) $126,768.

✗ B) $149,500.
✓ C) $303,360.

✗ D) $152,250.

Explanation

Weight of Stock = WS=0.40; Weight of Bonds = WB = 0.60

Expected Portfolio return = E(RP) = 0.40(9)+0.60(6) = 7.20%

Portfolio Standard deviation =

σP = [(WS)2(σS)2+ (WB)2(σB)2+2(WS)(WB)rSBσSσB]0.5

= [(0.40)2(0.18)2+(0.60)2(0.08)2+2(0.40)(0.60)(0.25)(0.18)(0.08)]0.5

= (0.009216)0.5

= 9.6%

VAR = Portfolio Value [ E(R) -zσ]

= 2,000,000[0.072 - (2.33)(0.096)] = $303,360.

References

Question From: Topic Area 4 > Topic 52 > LO 5

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