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Introduction

Market risk is the risk of loss from movements in market rates, typically measured over a short period"the horizon" (say 1 day or 10 days). For simplicity it is usually assumed that no trades mature or age during the horizon so the measured risk is purely due to rate movements. The market risk measures supported by the system are listed below.

In the following sections we will describe the configuration settings for each market risk measure. All users are able to view the configuration files that apply to their organisation however these files can only be edited by Vector Risk personnel.

**Note**
Regulatory market risk has traditionally used a combination of Var and Stress (Basel 2.5). With the advent of FRTB, the market risk regulatory framework contains many more detailed processes for both a standardised approach and an internal models approach. Please refer to the FRTB section of the help documentation for details of the Vector Risk solution.


Market Risk Measures

Value at Risk (Var)

• Scenarios for potential market movements over some effective time horizon under normal market conditions are generated and the impact of these movements on the portfolio valuation is determined.
• These are ordered and the “worst” to some confidence level is determined and reported.
• Uses empirical (historic) or parametric (Monte Carlo) market price distributions.

Expected Shortfall (ES)

• Uses the same approach as Value-at-Risk.
• Reports the average of all of the losses that are worse than the confidence interval value.
• Provides a measure of the extent of tail losses and the impact of outliers.
• More informative when used with historic market price distributions since these model outliers more realistically

Stress Testing (Stress)

• Any form of scenario testing where specified market price movements are applied to the portfolio and the impact on the portfolio valuation measured.
• Some regulators describe changes in broader economic conditions as stress tests.