Quiz 6 (answer)

Simply raise vol twice this time by increment DV. Compare the following Portfolio values (hence PV) PV[V] - PV [V+DV] and PV[V+DV]-PV[V+2DV] . If the second value is smaller (larger) than the first and one is long volatility, then he is short (long) the tails. Is the second value is smaller (larger) and he is short volatility, he is long (short) the tails.

Model Risk Effectively this exercise reveals more than fat tails --sensitivity to model errors, sensitivity to problems of distribution. In a way, everything starts and ends with NonGaussianism.