Evaluating value‐at‐risk models before and after the financial crisis of 2008: International evidence

Abstract

Purpose

The purpose of this paper is to focus on the performance of three alternative value‐at‐risk (VaR) models to provide suitable estimates for measuring and forecasting market risk. The data sample consists of five international developed and emerging stock market indices over the time period from 2004 to 2008. The main research question is related to the performance of widely‐accepted and simplified approaches to estimate VaR before and after the financial crisis.

Design/methodology/approach

VaR is estimated using daily data from the UK (FTSE 100), Germany (DAX30), the USA (S&P500), Turkey (ISE National 100) and Greece (GRAGENL). Methods adopted to calculate VaR are: EWMA of Riskmetrics; classic GARCH(1,1) model of conditional variance assuming a conditional normally distributed returns; and asymmetric GARCH with skewed Student‐t distributed standardized innovations.

Findings

The paper provides evidence that the tools of quantitative finance may achieve their objective. The results indicate that the widely accepted and simplified ARCH framework seems to provide satisfactory forecasts of VaR, not only for the pre‐2008 period of the financial crisis but also for the period of high volatility of stock market returns. Thus, the blame for financial crisis should not be cast upon quantitative techniques, used to measure and forecast market risk, alone.

Practical implications

Knowledge of modern risk management techniques is required to resolve the next financial crisis. The next crisis can be avoided only when financial risk managers acquire the necessary quantitative skills to measure uncertainty and understand risk.

Originality/value

The main contribution of this paper is that it provides evidence that widely accepted/used methods give reliable VaR estimates and forecasts for periods of financial turbulence (financial crises).

Citation

Degiannakis, S., Floros, C. and Livada, A. (2012), "Evaluating value‐at‐risk models before and after the financial crisis of 2008: International evidence", Managerial Finance, Vol. 38 No. 4, pp. 436-452. https://doi.org/10.1108/03074351211207563