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Answer: For the same confidence level, ES is always greater than VaR.
The correct answer is A. Expected shortfall (ES) is always greater than or equal to Value at Risk (VaR) for a given confidence level, because VaR measures the minimum loss that will not be exceeded with a certain probability (α), while ES accounts for the severity of expected losses beyond VaR. This means that ES not only captures the likelihood of losses but also the magnitude of potential losses in the tail of the distribution, making it a more comprehensive risk measure, especially during market turmoil. The other options are incorrect: B is false as a VaR backtest acceptance does not ensure the accuracy of ES; C is incorrect because VaR is not subadditive, whereas ES is; and D is false since backtesting ES is more complex due to the need to consider both the frequency and the magnitude of VaR violations.
Author: LeetQuiz Editorial Team
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A financial institution has predominantly relied on Value at Risk (VaR) as its primary risk assessment tool. Given the recent market volatility, the institution is considering the adoption of Expected Shortfall (ES) as a potentially more effective alternative. Before transitioning from VaR to ES, what are the essential differences and key insights that need to be understood about both Value at Risk and Expected Shortfall?
A
For the same confidence level, ES is always greater than VaR.
B
If a VaR backtest at a specified confidence level is accepted, then the corresponding ES will always be accepted.
C
While VaR ensures that the estimate of portfolio risk is less than or equal to the sum of the risks of that portfolio's positions, Es does not.
D
While ES is more complicated to calculate than VaR, it is easier to backtest than VaR.
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