# Are These Losses from The Same Distribution?

June 14, 2015
By

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In Advanced Measurement Approaches (AMA) for Operational Risk models, the bank needs to segment operational losses into homogeneous segments known as “Unit of Measures (UoM)”, which are often defined by the combination of lines of business (LOB) and Basel II event types. However, how do we support whether the losses in one UoM are statistically different from the ones in another UoM? The answer is to test if the losses from various UoMs are distributionally different or equivalent.

Empirically, Kolmogorov-Smirnov (K-S) test is often used to test if two samples are from the same distribution. In the example below, although x and y share the same mean, K-S test still shows a significant result due to different variances.

```n <- 300
set.seed(2015)
x <- rnorm(n, 0, 1)
y <- rnorm(n, 0, 1.5)

### 2-SAMPLE DISTRIBUTIONAL COMPARISON ###
ks.test(x, y, alternative = "two.sided")
#         Two-sample Kolmogorov-Smirnov test
#
# data:  x and y
# D = 0.1567, p-value = 0.001268
# alternative hypothesis: two-sided
```

However, K-S test cannot be generalized to K-sample cases, where K > 2. In such scenario, the univariate coverage test or the more general multivariate MRPP test might be more appropriate. The Blossom package developed by Talbert and Cade (https://www.fort.usgs.gov/products/23735) provides convenient functions implementing both tests, as shown below.

```z <- rnorm(n, 0, 2)
df <- data.frame(x = c(x, y, z), g = unlist(lapply(c(1, 2, 3), rep, n)))

### K-SAMPLE DISTRIBUTIONAL COMPARISON ###
# COVERAGE TEST FOR THE UNIVARIATE RESPONSES
library(Blossom)
ctest <- coverage(df\$x, df\$g)
summary(ctest)
# Results:
#        Observed coverage statistic             :  1.870273
#        Mean of coverage statistic              :  1.774817
#        Estimated variance of coverage statistic:  0.002275862
#        Standard deviation of the variance
#         of the coverage statistic              :  5.108031e-05
#
#        Observed standardized coverage statistic:  2.00093
#        Skewness of observed coverage statistic :  0.08127759
#        Probability (Pearson Type III)
#        of a larger or equal coverage statistic :  0.02484709
#        Probability (Resampled)
#        of a largeror equal coverage statistic  :  0.02475*

# MULTIRESPONSE PERMUTATION PROCEDURE FOR MULTIVARIATE RESPONSES
mtest <- mrpp(x, g, df)
summary(mtest)
# Results:
#        Delta Observed                :  1.676303
#        Delta Expected                :  1.708194
#        Delta Variance                :  4.262303e-06
#        Delta Skewness                :  -1.671773
#
#        Standardized test statistic   :  -15.44685
#        Probability (Pearson Type III)
#        of a smaller or equal delta   :  9.433116e-09***

```

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