Answers to the Questions

Question 1: In the following models, which suffer from an unrealistic assump-

tion of independence of price returns?
(a) The core EVT.
(b) Leadbetter’s EVT.
(c) The geometric Brownian motion.
(d) The geometric fractional Brownian motion.
Question 2: Correct order for building an EVT-VaR.
Answer: First (d) Sort the price returns, then (a) Calculate an extrapolated
quantile, follow with (b) Estimate the GEV parameter with Pickands estima-
tor, and lastly (c) Estimate the extremal index and calculate the extrapolated
quantile consistent with Leadbetter’s approach.
Question 3: Maximum drawdown defined in a sentence and with an equa-
tion.
Answer: Maximum drawdown measures the largest single drop  from peak to
Pt −Ps
trough before a new peak is achieved, M DD = max Pt , where Pt is the
t<s
peak value before time s, and Ps is the trough value at time s.
Question 4: Approximating the variation of the price of an asset exposed
to rate risk using duration and convexity.
Answer: Price variation can be approximated by ∆P ≈ −D · ∆y + 21 · C · (∆y)2 .
Question 5: Value of the GEV parameter for the maximum of Gaussian
variables.
Answer: The GEV parameter value for the maximum of Gaussian variables is
0 (Gumbel type).
Question 6: What is a historical VaR?
Answer: Historical VaR is the worst loss experienced over a historical period
at a given confidence level.
Question 7: Contract that can freeze the value of an asset to hedge market
risk.
(a) Futures.
(b) A European call option.
(c) A CDS.
(d) An Asian call option.
(e) A phoenix autocall.
Question 8: Ratio that is not a risk-adjusted performance ratio.
(a) The Sharpe ratio.
(b) The Sortino ratio.
(c) The Kyle ratio.
(d) The Omega ratio.
(e) The upside potential ratio.
(f) The Sterling ratio.

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 Question 9: Interpretation of the value of an estimated Hurst exponent.
Answer: The Hurst exponent indicates long-term memory of time series; a
value 0.5 implies no autocorrelation, ¡ 0.5 indicates mean-reverting, ¿ 0.5 indi-
cates trending behavior.
Question 10: Purpose of the model of Almgren and Chriss.
Answer: The Almgren and Chriss model is used to determine the optimal
trading strategy to minimize the cost of trading large orders.
Question 11: What are the four pillars of liquidity according to Harris?
Answer: The four pillars are:
1. Depth: Size of orders at the best bid and ask.

2. Breadth: The impact of the size of an order on the price of the asset.
3. Immediacy: The speed at which orders can be executed without affecting
the price of the asset.
4. Resiliency: The speed at which prices return to normal after a large
trade.
Question 12: What is the Saint Petersburg paradox and what does it tell
us about risk in finance?
Answer: The Saint Petersburg paradox is a scenario where a game offers a
payoff that has an infinite expected value, but individuals would not pay an
infinite price to play. It illustrates that people have a finite utility for money
and are risk-averse, which means expected utility, rather than expected value,
better explains economic decisions.