Aug 12

Computing value at risk (VaR) on a forward currency contract – 10 min screencast

by David Harper, CFA, FRM, CIPM

FRM |

This screencast explains Jorion’s Tables 11-6 and 11-7 in Chapter 11 on VaR mapping. The following are the steps:

  • First, in a prior screencast, we used the formula for the value of a forward contract to identify the three risk factors. This is the essential mapping idea: we characterize the portfolio as a set of exposures to underlying risk factors. In this case, a forward currency contract maps to a long position in a foreign currency spot rate, a long position in a foreign interest rate (EUR bill) and a short position in a domestic interest rate (USD bill)
  • Second, we develop input assumptions: VaR for the risk factors and the correlation matrix.
  • Third, we use the formula for portfolio VaR: post-multiply R(xV) and then pre-multiply (xV)’R(xV).

Here is the screencast:

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