Forex glossary
Tail Risk
Tail risk concerns rare, severely adverse outcomes in the extreme part of a loss distribution. Stress scenarios or expected shortfall can describe it, but results depend on data and assumptions. A tail measure guarantees neither a maximum loss nor coverage of unknown events.
Illustrative example
How does it work in practice?
In a hypothetical model, 99 scenarios lose no more than 20 USD and one loses 500 USD. The final scenario illustrates tail risk; average outcomes in the ordinary scenarios do not describe its severity.
A case to work through
An average and a rare large outcome
Model: 9 equally weighted scenarios have no loss and one loses 1,000 USD.
- The average loss across scenarios is 100 USD.
- The extreme scenario is ten times larger; the mean does not cap it.
What follows? Show severe scenarios alongside average measures.
Example boundary: Weights are assumptions, not observed crisis frequencies or loss bounds.
A useful distinction
Tail Risk / Conditional Value at Risk (CVaR)
CVaR measures a specified tail; tail risk describes the category of severe outcomes.
Check your understanding
Compare the overall mean with an extreme scenario.
Show the answer and explanation
No, it includes a 1,000 USD loss
The average is not an upper bound.
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Related terms
Sources and documentation
- BIS MAR10: market risk terminology
VaR at a stated horizon/confidence and expected shortfall as a tail mean.
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