How Does the Concept of “Value at Risk (VaR)” Relate to Setting Margin Levels?

Value at Risk (VaR) is a statistical measure used by clearing houses and brokers to estimate the maximum potential loss a position or portfolio could incur over a specified time horizon at a given confidence level. Margin levels are often set based on a high VaR calculation (e.g.

99% confidence over a one-day horizon) to ensure that the collateral is sufficient to cover most potential adverse movements, thereby protecting the system from default.