DISC 5.3 Volatility calculation methodology: structured products

1. (1) For the purposes of this section, track record is data comprising the daily historical pricing information, or if such information is not reasonably obtainable, weekly or monthly historical pricing information, for the relevant underlying or reference assets of the structured product that covers a period of 10 consecutive years ending on a date no earlier than 60 days before the date the manufacturer prepares or reviews a product summary for the structured product.
2. (2) Where the consumer composite investment has less than 10 years of historical pricing, the manufacturer must simulate historical pricing for the remainder of the 10 year period based on an appropriate proxy reference index, benchmark, or reference financial instruments, unless it reasonably cannot do so.

1. A manufacturer is required to simulate the future performance of the product to produce a value at risk (VaR) measure by:
2. (1) using the track record to simulate the future performance of the underlying or reference assets of the product;
3. (2) simulating the future performance of the product by calculating the product payout value for each simulated performance of the underlying or reference assets in (1) and multiplying each payout value by the appropriate risk-free discount factor for the recommended holding period;
4. (3) determining the product’s value at risk (VaR) by reference to the 97.5-percentile worst discounted product payout value created in (2); and
5. (4) using the value at risk (VaR) of the product to calculate a value at risk equivalent volatility (VeV), using the following formula:

where T = the length of the recommended holding period in years

In simulating the future performance of the underlying or reference assets in DISC 5.3.2R, the manufacturer must use an appropriate bootstrapping (or other Monte Carlo-based) methodology to generate an expected distribution of prices or price levels from the track record, based on a minimum of 10,000 “samples” or simulations with replacement.

1. (1) The manufacturer must adjust the simulated distribution of daily returns to account for any difference between the mean of the simulated distribution and the current market forward price for the underlying or reference asset for the recommended holding period.
2. (2) In (1), the current market forward price is a function of the current risk free interest rates and dividend yields (or similar running costs associated with the underlying or reference assets) used in the construction of the simulated distribution.