medium · FRM Part 1
In a multivariate Delta-Gamma VaR, what role does the covariance matrix (Σ) play?
- It serves as the decay factor (λ) in an EWMA volatility model.
- It is used to calculate the risk-neutral probabilities (p) used in the binomial tree.
- It is the primary tool for eliminating 'ghosting' effects in historical simulation.
- It provides the joint probabilities of price changes (δ S_i, δ S_j) that interact with the vector of deltas and the matrix of gammas.
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