Nonparametric risk management and implied risk aversion

Typical value-at-risk (VaR) calculations involve the probabilities of extre me dollar losses, based on the statistical distributions of market prices. Such quantities do not account for the fact that the same dollar loss can h ave two very different economic valuations, depending on business condition s. We propose a nonparametric VaR measure that incorporates economic valuat ion according to the state-price density associated with the underlying pri ce processes. The state-price density yields VaR values that are adjusted f or risk aversion, time preferences, and other variations in economic valuat ion. In the context of a representative agent equilibrium model, we constru ct an estimator of the risk-aversion coefficient that is implied by the joi nt observations on the cross-section of option prices and time-series of un derlying assest values. (C) 2000 Elsevier Science S.A. All rights reserved. JEL classification: G12; C13; C22.