VaR Backtesting, Stress Testing and Model Limitations

VaR Backtesting, Stress Testing and Model Limitations - Article

Value at Risk is useful only when its performance is continuously checked and its weaknesses are understood. **Backtesting** compares VaR forecasts with actual or hypothetical trading outcomes, while **stress testing** examines losses under severe but plausible market conditions beyond normal VaR assumptions. This article explains VaR exceptions, model validation, historical and hypothetical stress scenarios, reverse stress testing, model risk, and major VaR limitations for CAIIB BFM.