medium · FRM Part 1 Valuation and Risk Models
A risk practitioner is comparing Monte Carlo simulation to the Delta-Gamma approximation for a complex portfolio of path-dependent options.
What is a primary disadvantage of the Delta-Gamma approach in this scenario?
- It is unable to incorporate the correlations that clearly exist between the different underlying assets held across the portfolio.
- It requires significantly more computational power than Monte Carlo simulation, since it must calculate second-order derivatives for every position held.
- It assumes that all options held in the portfolio share the exact same expiration date, which materially misstates the true risk profile.
- It fails to capture path-dependent features and higher-order moments (like 'speed' or 'color') that Monte Carlo revaluation handles natively.
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