8008 Exam Dumps | Which of the following introduces model error when basing VaR on a normal distribution with a static

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PRM Certification - Exam III: Risk Management Frameworks, Operational Risk, Credit Risk, Counterparty Risk, Market Risk, ALM, FTP - 2015 Edition
PRMIA.8008.v2021-08-28.q125
Question 63

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Question 63/125

Which of the following introduces model error when basing VaR on a normal distribution with a static mean and standard deviation?

A. Heavy tails

B. Volatility clustering

C. Autocorrelation of squared returns

D. All of the above

Correct Answer: D

Explanation
When VaR is based on an assumption of normality with a static mean and volatility, it means anything that violates these assumptions will introduce model error. Volatility clustering implies a non-static volatility.
Heavy tails imply non-normality of the shape of the distribution. Autocorrelation of squared returns implies that returns are not independent and identically distributed. Therefore all of these introduce model error.
Choice 'd' is therefore the correct answer.

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