Risk factor beta conditional value-at-risk

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Abstract

We propose a new approach to the estimation of the portfolio Value-at-Risk. Based on the assumption that the same macroeconomic factors affect returns of all assets in a portfolio, this methodology allows the generation of the sequence of hypothetical future equilibrium portfolio returns given the historical values of the underlying macroeconomic factors and the asset betas with respect to these factors. Value-at-Risk is then found as an appropriate percentile of the corresponding hypothetical distribution of the portfolio profits and losses. The backtesting results for the six Fama–French benchmark portfolios and the S&P500 index show that this approach yields reasonably accurate estimates of the portfolio Value-at-Risk. Copyright © 2008 John Wiley & Sons, Ltd.

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