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Comparison of Risk Calculation Based on Historical Simulation and the Copula Function

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  • Miskolczi, Panna

Abstract

The fundamental aim of this paper is to compare risk calculation based on historical simulation with risk calculation based on the copula function. In the case of historical simulation it is assumed that future data can be estimated on the basis of historical data. The copula function is a multi-dimensional distribution function with which we can explore the correlations between probability variables (in this case, equities within the portfolio) and simulate or forecast their future development. A method is called “better” if it enables a more accurate estimation of risk, i.e. where actual and estimated values are closer to each other. In this paper, the Value at Risk and Expected Shortfall risk measures are used to determine risk, while the accuracy of the two simulations is tested with the backtesting method. Based on the results of the empirical study of the daily price data of seven equities we may conclude that risk calculation based on the copula function may contribute to a more precise modelling of risk.

Suggested Citation

  • Miskolczi, Panna, 2018. "Comparison of Risk Calculation Based on Historical Simulation and the Copula Function," Public Finance Quarterly, Corvinus University of Budapest, vol. 63(1), pages 80-95.
    • Handle: RePEc:pfq:journl:v:63:y:2018:i:1:p:80-95
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    File URL: https://unipub.lib.uni-corvinus.hu/8751/
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    References listed on IDEAS

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    1. Yan, Jun, 2007. "Enjoy the Joy of Copulas: With a Package copula," Journal of Statistical Software, Foundation for Open Access Statistics, vol. 21(i04).
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    More about this item

    Keywords

    copula; historical simulation; backtesting; Value at Risk; Expected Shortfall;
    All these keywords.

    JEL classification:

    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation

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