Risk Analysis for Financial Engineering
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SEEM 3580 Risk Analysis for Financial Engineering
Course Project
This is an individual project to be finished on your own. Please give sufficient expla-
nations to support your answers. Complete the project by answering all the questions.
Submit (1) a short report including your answers and explanations to all the ques-
tions, and (2) the procedures supporting your answers to those questions that involve
calculations (e.g. Excel files or codes in other languages, which show or reproduce
results to support your answers). Read through all the questions and remarks before
starting the project.
Market Value at Risk: Estimation and Stress Testing
Foreword: In the lecture, we have discussed various methods of VaR (Value at Risk)
estimation using recent market data. In view of the past financial crisis, it is
important for the financial institutions to estimate the level of VaR under “stressed
scenarios” (also called “Stressed VaR”), during which exceptional events happen
(e.g. the 2007-09 financial crisis were to happen again). This type of estimations
can be done via “stress tests”, which are required by the Basel Accord for banking
regulation. There are many stress testing approaches in practice, and in this project,
you will be guided through some of the simple examples.
You are a market risk manager in Financial Institution XYZ. The trading book
portfolio consists of the following positions in three stocks:
• 3,000 shares of General Electric Co.;
• 5,500 shares of Novavax Inc;
• 6,000 shares of Goldman Sachs Group Inc.
The portfolio is denominated in U.S. Dollar. In the following parts, it is assumed
that no adjustment is made to the portfolio (that is, the numbers of shares remain
the same as above). You estimate the market VaR via two approaches: the
RiskMetrics Approach and the Historical Simulation Approach. For both
approaches, the risk factors are selected as the Adjusted Close Price of these three
stocks, denoted as y1, y2, y3, respectively.