What is Value at Risk (VaR)?
The maximum expected loss over a period at a given confidence level.
Formal Definition
Value at Risk (VaR) estimates the maximum loss a portfolio is not expected to exceed over a set horizon at a chosen confidence level, for example a one-day 95% VaR. It is computed from historical, parametric, or Monte Carlo methods. VaR is widely used in risk management, though it says nothing about the size of losses beyond the threshold.
In Simple Terms
It answers: on a normal bad day, how much could I lose? A one-day 95% VaR of $5,000 means only about 1 day in 20 should be worse than a $5,000 loss.
Example
A $1 million portfolio with a one-day 95% VaR of $20,000 should lose more than $20,000 on only about one trading day in twenty.