The purposes of this paper are two-fold. On the one hand, we shall provide a decision analysis justification for the Value at Risk (VaR) approach based on ex-post, disappointment decision making arguments. We shall show that the approach is justified by a disappointment criterion. In other words, the asymmetric valuation between ex-ante expected returns above an appropriate target return and the expected returns below that same target level, provide an explanation for the VaR criterion when it is used as a tool for VaR efficiency design. Second, this paper provides applications to inventory management based on VaR risk exposure. Although the mathematical problems arising from an application of the VaR approach, tuned to current practice in financial risk management, are difficult to solve analytically, solutions can be found by application of standard computational and simulation techniques. A number of cases are solved and formulated to demonstrate the paper’s applicability.
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Paper provided by ESSEC Research Center, ESSEC Business School in its series ESSEC Working Papers with number
DR 03012.
Find related papers by JEL classification: C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation D24 - Microeconomics - - Production and Organizations - - - Production; Capital and Total Factor Productivity; Capacity D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
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