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Questions and Answers
What characterizes leptokurtic return distributions?
What characterizes leptokurtic return distributions?
- They are always normally distributed.
- They exhibit fat tails, making extreme losses more likely. (correct)
- They show no extreme changes in financial returns.
- They have thin tails with low frequency of extreme changes.
Why is it risky to rely on a normal distribution for financial risk assessment?
Why is it risky to rely on a normal distribution for financial risk assessment?
- It simplifies the complexities of market behavior.
- It can lead to an underestimation of the risk of extreme events. (correct)
- It requires less data for analysis.
- It assumes that returns are always positive.
What is a consequence of neglecting leptokurtic distributions in risk management?
What is a consequence of neglecting leptokurtic distributions in risk management?
- Increased likelihood of bankruptcy due to extreme losses. (correct)
- A better understanding of moderate changes.
- Enhanced accuracy in predictive modeling.
- Overestimation of tail risk.
Which of the following statements is a stylized fact about financial returns?
Which of the following statements is a stylized fact about financial returns?
What does the term 'volatility clustering' imply in financial returns?
What does the term 'volatility clustering' imply in financial returns?
Which type of risk is specifically addressed in the content?
Which type of risk is specifically addressed in the content?
What does a skewness of 0 indicate about a distribution?
What does a skewness of 0 indicate about a distribution?
What characterizes a negatively skewed distribution?
What characterizes a negatively skewed distribution?
What type of distribution has a higher kurtosis than a normal distribution?
What type of distribution has a higher kurtosis than a normal distribution?
Which statement is true regarding negatively skewed return distributions?
Which statement is true regarding negatively skewed return distributions?
What is the correct interpretation of positive kurtosis?
What is the correct interpretation of positive kurtosis?
What does the third moment of a distribution describe?
What does the third moment of a distribution describe?
What risk is characterized by the inability to find a counterpart to sell assets?
What risk is characterized by the inability to find a counterpart to sell assets?
Flashcards
Fat Tails
Fat Tails
A probability distribution with more extreme values (both positive and negative) than a normal distribution.
Leptokurtic Distribution
Leptokurtic Distribution
A probability distribution that has a higher peak and fatter tails compared to a normal distribution.
Leptokurtosis in Financial Returns
Leptokurtosis in Financial Returns
A property of financial returns where extreme price changes are more likely to occur than predicted by a normal distribution.
Volatility Clustering
Volatility Clustering
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Near-Symmetric Return Distributions
Near-Symmetric Return Distributions
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Default Risk
Default Risk
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Liquidity Risk
Liquidity Risk
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Skewness
Skewness
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Zero Skewness
Zero Skewness
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Negative Skewness
Negative Skewness
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Positive Skewness
Positive Skewness
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Kurtosis
Kurtosis
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Study Notes
Financial Risk - Price Risk
- Price risk is a type of financial risk.
- Default risk and liquidity risk are other types of financial risk.
Normal Distribution
- Useful for assessing investment risk.
- Includes higher moments, not just mean and variance.
- The third moment is skewness.
Skewness
- Measures distribution symmetry.
- 0 = symmetric distribution.
- Negative skewness = left-skewed, majority of probability to the right of the mean. Longer tail on the left.
- Positive skewness = right-skewed, majority of probability to the left of the mean. Longer tail on the right..
Kurtosis
- The fourth moment of a distribution.
- Normal distribution has kurtosis of 0.
- Positive kurtosis = leptokurtic (fat tails, higher peak around the mean).
- Negative kurtosis = platykurtic (thin tails, lower peak around the mean).
Financial Return Distributions
- High-frequency financial returns are leptokurtic.
- Kurtosis of financial returns decreases with increased time intervals.
- Financial return distributions are roughly symmetric.
- Market volatility tends to cluster. Large changes tend to be followed by large changes, and small changes tend to be followed by small changes.
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Description
This quiz covers essential concepts in financial risk, including price risk, default risk, and liquidity risk. It also explores normal distribution, skewness, and kurtosis, focusing on their relevance to assessing investment returns. Test your understanding of these key financial principles!
