“we limit fund losses to 2% of assets with a 99% level of confidence”
VaR is an expression of a minimum loss. It is incorrect for Patterson to state that the policy will limit fund losses to 2%over a 5- day period.
VaR is a minimum loss if stated as a 1% (or 5%) VaR. But given a 99% level of CONFIDENCE means that we are 99% sure that losses would not exceed 2% of assets. Other way around in 1% of the cases the minimum loss would be 2%.
They are not giving the % VaR in this case, but the level of confidence!
No, VaR is the minimum loss if it’s stated like: 1%VaR is 20%. That means that the minimum loss is 20%. But if it’s stated (like in the question above) that the 99% confidence level of the VaR is 20% means that 99% of the time the loss is not more than 20%!
If I have let say 5% of probability of having a loss of minimum 10% then I have 95% of the time I have a loss of less than 10%
A 1% VaR (99% confidence) is the point on the distribution 2.33 standard deviations below the expected value
-> this is equivalent to 2% of assets
Below is from curriculum note 2.
Using the example given, it is correct to say
• 2% assets is the minimum loss we would expect 1% of the time; or
• 1% of the time, losses would be at least 2% of assets; or
• we would expect a loss of no more than 2% of assets 99% of the time.
The last sentence is sometimes mistakenly phrased as “99% of the time we would expect to lose less than 2% assets,” but this statement could be taken to mean that 99% of the time we would incur losses, although those losses would be less than 2% assets. In fact, a large percentage of the time we will make money.