How does the theFinancials.com EWMA measure of volatility differ from the J.P. Morgan RiskMetrics approach used in VaR calculations?
The J.P. Morgan RiskMetrics approach to estimating and forecasting volatility uses an exponentially weighted moving average model (EWMA) which is virtually identical to the method used for theFinancials.com EWMA Volatility calculations. Both models require that a “decay factor” be specified, in order to determine the rate at which the weighting of past observations diminishes. In order that Market Library EWMA Charts provide closely-comparable output to RiskMetrics volatility estimation, our model uses the same decay factor as RiskMetrics EWMA, i.e. 0.94. Likewise, in choosing between yesterday’s and today’s price movement to reflect “market change”, both the VaR and theFinancials.com versions utilize “today s market change” for this purpose.
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