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My question is regarding the PRIIPs regulation, specificaly about category 3 products that depend on yield curves and require PCA. The product in question is index-linked product, which means that the product is linked to a bond (zero or coupon). We know the coupon rate, maturity, nominal value. With these we can simply calculate Present Value of the bond using a discount factor.

PRIIPs regulation (beginning on page 8) requires simulating future VaR and future scenarios.

As I understand it, for a bond we have to gather historical daily yield curves log returns, perform PCA, disregard all components except 3 most significant, reverse PCA and the result is basically smoothed yield curve returns. Afterwards we bootstrap smoothed yield curve returns for each day until maturity.

What next? The MRM is calculated as VAR at the end of maturity, but at the end of maturity the payoff of any bond is 100% of nominal.

Also how to continue with simulated return? I calculate Present value with the simulated return. What about the spread then? What curves should I even use in the beginning? The flow diagrams are not very helpful in this case. They even suggest different approach than what is in the methodology.

Overall this part of methodology is described very poorly (at least for me) and I will appreciate any help, any info, any experience about PRIIPs using yield curves and PCA+bootstrap simulations.

Also what does following quote (page10) mean? Recomended holding period should equal maturity.

"adjusted so that the expected mean matches current expectations for the rate at tenor point T, at the end of the recommended holding period"

Thank you.

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