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First-passage probability, jump models, and intra-horizon risk

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  • Bakshi, Gurdip
  • Panayotov, George
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    Abstract

    This paper proposes a risk measure, based on first-passage probability, which reflects intra-horizon risk in jump models with finite or infinite jump activity. Our empirical investigation shows, first, that the proposed risk measure consistently exceeds the benchmark value-at-risk (VaR). Second, jump risk tends to amplify intra-horizon risk. Third, we find large variation in our risk measure across jump models, indicative of model risk. Fourth, among the jump models we consider, the finite-moment log-stable model provides the most conservative risk estimates. Fifth, imposing more stringent VaR levels accentuates the impact of intra-horizon risk in jump models. Finally, using an alternative benchmark VaR does not dilute the role of intra-horizon risk. Overall, we contribute by showing that ignoring intra-horizon risk can lead to underestimation of risk exposures.

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    Bibliographic Info

    Article provided by Elsevier in its journal Journal of Financial Economics.

    Volume (Year): 95 (2010)
    Issue (Month): 1 (January)
    Pages: 20-40

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    Handle: RePEc:eee:jfinec:v:95:y:2010:i:1:p:20-40

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    Web page: http://www.elsevier.com/locate/inca/505576

    Related research

    Keywords: Intra-period risk First-passage probability Value-at-risk Jump-models;

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    Cited by:
    1. Torben G. Andersen & Tim Bollerslev & Peter F. Christoffersen & Francis X. Diebold, 2012. "Financial Risk Measurement for Financial Risk Management," NBER Working Papers 18084, National Bureau of Economic Research, Inc.

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