Simulation Methods
Refresher reading access
Introduction
The understanding and application of probability distributions is a critical component of forecasting financial variables and asset prices. This learning module provides a foundation for understanding important concepts related to probability distributions. Regarding the application of probability distributions, this learning module explains how to construct and interpret a Monte Carlo simulation analysis. Bootstrapping, with some similarities to Monte Carlo simulations, is also demonstrated to illustrate the use and application of this statistical sampling approach.
Learning Outcomes
The candidate should be able to:
- explain the relationship between normal and lognormal distributions and why the lognormal distribution is used to model asset prices when using continuously compounded asset returns
- describe Monte Carlo simulation and explain how it can be used in investment applications
- describe the use of bootstrap resampling in conducting a simulation based on observed data in investment applications
0.5 PL Credit
If you are a CFA Institute member don’t forget to record Professional Learning (PL) credit from reading this article.