Chapter 11 - Market risk measurement

Abstract

This chapter presents a discussion on market risk measurement. The chapter describes a widely used risk measure—value at risk (VaR). VaR is a simple and universal measure that can be used for determining risks of different financial assets and entire portfolios. Furthermore, the notion of the coherent risk measure is also introduced in the chapter and one such popular measure—namely, expected tail losses (ETL)—is also discussed. The chapter discusses several possible causes of financial losses. First, there is market risk that results from unexpected changes in the market prices, interest rates, or foreign exchange rates. Other types of risk relevant to financial risk management include liquidity risk, credit risk, and operational risk. The liquidity risk closely related to market risk is determined by a finite number of assets available at a given price. Another form of liquidity risk refers to the inability to pay off a debt in time. Credit risk arises when one of the counterparts involved in a financial transaction does not fulfill its obligation. Finally, operational risk is a generic notion for unforeseen human and technical problems—such as fraud, accidents, and so on.