What Is Value at Risk And Why You Should Use It?

• March 3, 2018
• by Kate Borucka

Effective Risk Management

Using the tools created by the language of mathematics is an enormous aid in the process of entrepreneurship management, especially that they are created for this particular purpose. Contemporary manager or project manager should have a comprehensive and extensive knowledge on the economy in order to successfully manage his business as well and lead lucrative projects and investments. It’s not enough to simply be the manager. Combining the knowledge on the economy, mathematical instrument, and statistical concepts allows investors to find answers to many of the nurturing questions such as: is the project cost-effective? How much will I earn on it? And basically the most important and disturbs our dream: how much can I lose?

However, it is not a rocket science and thanks to this article you will learn one of the ways for effective investing risk evaluation – evaluating a specific capital’s value prone to risk.

What Is Value at Risk?

Value at Risk (VAR) is a specified, calculated numerical value, which indicates how much hypothetically achievable level of loss in a given investment is.

Before getting to the specifics, a parameter called “trust level” should be defined. It’s nothing else but the probability value chosen by the investor. In other words, the precision of capital at risk value measurement. It is specified as a chosen percentage value from the scale 0-100%, called percentile. When determining and providing sufficient data, which is time horizon (for example, for one week starting from today) for which we want to calculate the VaR, the value of our asset in the base day (e.g.: the company’s shares which we have), the history of change of our asset’s price (e.g.: asset’s price during the last week), and the trust level (e.g.: equal of 95%), the result which we get is the loss possible to be carried.

Taking into account our example, we will get a value which will determine the amount of money which we will not lose investing in the particular shares with the indicated probability for the mentioned period of one week.

Of course, this is just a simple example which serves to picture the probabilities which we face when working with the use of the VaR method. It can definitely be recommended for the determined value of exposition at risk in the case of, e.g., portfolio made of many financial or transactional instruments.

Value at Risk And Its Derivatives

Source: https://www.signavio.com/

It is also worth noting that similar areas in the scope of risk management are also measures such as Profit at Risk (used to determine profit at risk) and Margin at Risk (regarding margin). Mark-to-Market is also interesting (that is, determining the value of our assets, based not on the price of our transactions, but current market values), as well as the income statement, ie Profit & Loss.

Value at Risk in Project Management

If you’re a project manager and want to accurately calculate risks, VAR method can be a useful tool in your work. It can help you measure and manage risk in different areas of the project. If you apply different derivatives to different parts of your projects and then combine them into one, you will achieve successful outcomes.This will help you in managing risk to the perfection. However, the method of value at risk may require smart and mathematical approach, as well as analytical thinking. But you can be sure that your projects will have 100% rate of success.

Kate Borucka

Kate is a freelance translator, copywriter, and a content writer specializing in time tracking software, time management, and productivity. When not researching new software, she's reading books, or spending time outdoors.