The variance-covariance method makes use of covariances (volatilities and correlations) of the risk factors and the sensitivities of the portfolio values with respect to these risk factors with the goal of approximating the value at risk. This method leads directly to the final result, i.e. the portfolio’s value at risk; no information regarding market scenarios arises. The variance-covariance method utilizes linear approximations of the risk factors themselves throughout the entire calculation, often neglecting the drift as well.
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