Market Risk Module - Stress

[Rahul]

This question is under Chapter Solvency Assessment (2)
Page 18 Standard formula calculation
Context: Market Risk Module:

• 25% stress to property values
• both an immediate 25% increase in the value of the currency and an immediate 25% decrease in the value of the currency

Question: How is the second stress applied? Why are we applying an immediate increase followed by an immediate decrease, Instead of applying a net stress? Ex: On 1000 applied +25% stress becomes 1250 and then -25% stress on it becomes 937.5.

 

[rlsrachaellouisesmith]

Hi Rahul,

It is actually saying that two stresses are applied and the one with the greatest impact is the capital required. This is the same for the interest rate stress.

- So apply a 25% increase in the value of the currency to the base scenario - what is the required capital?
- then separately apply a 25% decrease in the value of the currency to the base scenario - what is the required capital?

The higher of the two is the capital requirement for the currency stress.

Hope that helps.

Rachael

 

[AndyB]

Hi Rachael

Sorry, I am not really following.
Would you be able to provide a numeric example to explain how you would go about this?

Thanks

 

[Lindsay Smitherman]

It is simply as Rachael has described:

(1) Recalculate the value of assets and value of liabilities (either or both of which might have components that are denominated in another currency) under a 25% appreciation of the currency. Then the difference between the base {A - L} and {A - L} under the currency change is the required capital for that particular stress (upward).

(2) Repeat, but instead apply a 25% depreciation of that currency against the domestic currency.

Required capital = max of (1) and (2) results