Smitherspoon is curious about risk management techniques, and in particular the concept of VAR. He asks, “What does a daily 5% VAR of $5 million mean? I just get so confused with whether VAR is a measure of maximum or minimum loss. Just last month, the consultant from MinRisk, a competing consulting firm, told me it was ‘a measure of maximum loss, which in your case means we are 95% confident that the maximum 1-day loss is $5.0 million.’” McGuire states that his definition of VAR is that “VAR is a measure that combines probabilities over a certain time horizon with dollar amounts, which in your case means that one expects to lose a minimum $5 million five trading days out of every 100.”
Schweser is insisting that MinRisk is correct, but wouldn’t the correct interpretation be that they are 95% confident that that the maximum 1-day loss is $5m or less, not exactly $5m?
Or maybe I am losing my mind and need to rest…