Market risk computation for nonlinear portfolios

Gerold Studer

Abstract

ABSTRACT

Maximum loss is introduced as a method for analyzing the market risk of portfolios by identifying the worst case in a given set of scenarios, called the 'trust region'. After discussing some important relationships between maximum loss and value-at-risk, a technique for the maximum loss computation for quadratic functions is described. The repetitive application of this technique to growing trust regions leads to a sequence of worst case scenarios which form a complete path. The approximation of arbitrary profit and loss functions by a sequence of quadratic functions allows the efficient analysis of nonquadratic portfolios.