Keywords: VaR, backtesting
Abstract: This paper reviews a variety of backtests that examine the adequacy of Value-at-Risk (VaR) measures.
These backtesting procedures are reviewed from both a statistical and risk management
perspective. The properties of unconditional coverage and independence are defined and their
relation to backtesting procedures is discussed. Backtests are then classified by whether
they examine the unconditional coverage property, independence property, or both properties of
a VaR measure. Backtests that examine the accuracy of a VaR model at several quantiles, rather
than a single quantile, are also outlined and discussed. The statistical power properties
of these tests are examined in a simulation experiment. Finally, backtests that are specified in
terms of a pre-specified loss function are reviewed and their use in VaR validation is discussed.
Full paper (175 KB PDF)
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Last update: June 1, 2005