There are multiple ways to incorporate scenario analysis for modeling operational risk capital - and the exact approach used depends upon thequantity of loss data available, and the quality of scenario assessments. Generally:
- If there is no past loss data available, scenarios are the only practical means to model operational risk loss distributions. Both frequency and severity estimates can be modeled based on scenario data.
- If there is plenty of past data available, scenarios can be used as a modifier for estimates that are based solely on data (for example, consider the MAX of the loss estimates at the desired quantile as provided bythe data, and as indicated by scenarios)
- If high quality scenario data is available, and there is sufficient past data, one could mix scenario assessments with the loss data and fit the combined data set to create the loss distribution. Alternatively, both could be fitted with severity estimates and then the two severities could be parametrically combined.
In short, there is considerable flexibility in how scenarios can be used.
Statement I is therefore correct, and so is statement II as both indicate valid uses of scenarios.
Statement III is not correct because it may be okay to create severity estimates based on scenario data alone.
Statement IV is not correct because while using scenarios as modifiers to other means of estimation is acceptable, that isnot the only use of scenarios.
