University of Isfahan Journal of Asset Management and Financing 2383-1189 6 3 2018 09 23 Stress Testing as a Key Tool for Financial Assets Risk Management with Emphasis on Extreme Value Theory and Copula Functions Stress Testing as a Key Tool for Financial Assets Risk Management with Emphasis on Extreme Value Theory and Copula Functions 67 86 23037 10.22108/amf.2018.107070.1177 FA Alireza Saranj Assistant Prof., Department of Financial Management, Faculty of Management and Accounting, Farabi Campus, University of Tehran, Qom, Iran 0000-0001-7921-9264 Marziyeh Nourahmadi Master of Finance, Department of Financial Management, Faculty of Management and Accounting, Farabi Campus, University of Tehran, Qom, Iran Journal Article 2017 10 15 Stress testing is a simulation technique to evaluate portfolio reactions to several critical situations. In this paper, we review different stress testing methodologies to examine impacts of different stress scenarios on an Iranian equity portfolio. We identify the extreme tails of all risk factors in our portfolio by extreme value theory and model their dynamic and nonlinear dependence structures with copula functions. We performed three stress tests such as historical, hybrid and hypothetical stress scenarios to simulate the joint evolution of risk factors over time in a realistic way. According to the empirical findings, we find that historical scenario method is not a suitable tool for stress testing due to several drawbacks and show the importance of forward-looking analysis such as hybrid and hypothetical scenarios. We also indicate that the hypothetical stress approach is superior to the other two scenarios from the perspective of stress testing. Stress testing is a simulation technique to evaluate portfolio reactions to several critical situations. In this paper, we review different stress testing methodologies to examine impacts of different stress scenarios on an Iranian equity portfolio. We identify the extreme tails of all risk factors in our portfolio by extreme value theory and model their dynamic and nonlinear dependence structures with copula functions. We performed three stress tests such as historical, hybrid and hypothetical stress scenarios to simulate the joint evolution of risk factors over time in a realistic way. According to the empirical findings, we find that historical scenario method is not a suitable tool for stress testing due to several drawbacks and show the importance of forward-looking analysis such as hybrid and hypothetical scenarios. We also indicate that the hypothetical stress approach is superior to the other two scenarios from the perspective of stress testing. https://amf.ui.ac.ir/article_23037_433920eae88dcd476877ae2ec425fb8b.pdf