I was speaking to a very esteemed professional in Financial Risk and he mentioned that he always prefers to use Historical Simulation as the method for his VaR even if he prices his Exotic derivatives (such as Barrier Options) by using the Monte Carlo simulation method.
I asked how this would be done, re-running the simulation for everyday for the past year (if the in-sample period is one-year for example) and getting the payoff that way?
He said no, actually what he does - using an AutoCallable Swap on three indices as an example - is:
- Calculate the estimated Price of the instrument using the Monte Carlo method: generating many simulated paths of the underlying indices and getting the mean of the simulated payoffs and present valuing to today
- Getting the delta of the instrument which each index by varying them before re-pricing and seeing what the change in the price is
- Getting the one-year time series of each index, multiplying each index by their delta, and adding them together and using that as the implied one-year time series of the index
I can't seem to find any reference to this method and I haven't been able to contact him since to ask him directly. Does this method have a name or a source that I could look up?