medium · FRM Part 1

When comparing arithmetic (absolute) VaR and lognormal (relative) VaR over a multi-day horizon with a significant positive expected return, which statement best describes the impact of the drift adjustment?

1. The drift adjustment is only applicable to lognormal VaR because arithmetic VaR assumes a mean-zero process for all short horizons.
2. Arithmetic VaR will yield a higher risk estimate than lognormal VaR because it linearly subtracts the drift from the volatility-scaled tail.
3. The drift adjustment increases the VaR for both methods as the horizon T increases, reflecting growing uncertainty.
4. Lognormal VaR will always be higher than arithmetic VaR due to the right-skewness of the lognormal distribution.

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