Value-At-Risk (VaR), which calculates the risk associated with open positions based on historic volatility, holding period and given confidence levels is fundamentally useless, says legendary hedge fund manager, when speaking at the GAIM 2011 conference in Monaco.
VaR models are dangerous, said Anthony Ward, Co-Founder of Armajaro, where he specialises in soft commodities trading. Var is no good for anyone and the only reason we use it is because everyone keeps asking for it. We invest in options to reduce volatility, which is another tool we can use to manage risk.
At the same conference Nassim Taleb, Principal, Universa Investments, distinguished Professor of Risk Engineering and co-Director of the Research Center for Risk Engineeering at the Polytechnic Institute of New York University and author of the Black Swan also expressed his dislike for VaR.I have been trying most of my life to explain that traditional risk models that people use do not work, said Taleb. And obviously, we now have evidence that those who dont have those models, have better sense of heuristics and intuition than those who do. VAR doesnt work, never works and never will work.
On the conferences opening day, he revealed his Heuristics formula. The Heuristics formula is computing the model or risk model at parameter p. The formula itself is p+x%, p-x% (where x% is the average deviation.)
The model or measure, includes the stress test (p is the stress test, say -15%, -20%, -25%)
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(LB)