Zero-replication
weighted avg macauley duration equals investment horizon for a single liability
Portfolio Structural Risk
risks that arise from choice of portfolio allocation, from twists and non-parallel shifts in yield curve
- reduced by minimizing dispersion
Complexity of immunization strategies
bond tender offer > cashflow immunization > duration matching
LDI risks
- model risk
- spread risk
- counterparty risk
- collateralization risk
- asset liquidity risk
Total return swap
receive - gets index CF + appreciation
pays - libor + spread, index depreciation + default loss
Bums problem
value weighted indexes assign greater share to borrowers with alrge leverage
I-spread
uses swap rates denoted in same currency
duration times spread (DTS)
attempt to capture both OAS and SD
Emerging market FI
- concentration in commodities and banking
- government ownership
- credit quality: sovereign ceiling
Production vs market oriented equity
- production: group by products manufactured or inputs used
- market: based on markets they serve, way revenue is earned, consumers that use product
Management fee, admin fee, performance fee effects on performance
- management fee unknown
- performance fees pay for research, can benefit fund
- admin fees lower performance
Primary risk of security lending
- credit quality of borrower and market value risk of collateral
Fundamental vs Quantatitive
- Style
- decision making
- primary resource
- analysis focus
- portfolio construction
- orientation data
style: subjective vs objective
decision making: discretionary vs systematic
primary resource: human judgement vs models
informatino used: research vs variables
analysis: small selection vs large
data: forecast IV vs forecast price
Event driven: Merger arb, risk profile and liquidity
- relatively liquid
- likely to fail in stress markets, left tail risk
- friendly deals lower spread
- highest sharpe ratio
- med to high leverage
Event driven: distressed security, risk profile and liquidity
- long, generally illiquid
- higher return with higher volatility
- attractive during early stages of economic recovery
- results in either liquidation or re-organization
Relative value: fixed income arb, risk profile and liquidity
- high leverage
- issues in short selling, credit basis risk (bond vs convertible), time decay, extreme conditions (hightened credit risk, less liquidity, redemption risk)
- credit and interest rate risk can be hedged out
Relative value: Convertible arb, risk profile and liquidity
- liquidity issue on thinly traded
- works best during high convertible issuance, moderate volatility and reasonable market liquidity
- high leverage used
- hard to borrow shares, credit issue on convetible, time decay
Opportunistic: Global macro, risk profile and liquidity
- discretionary, lower liquidity than managed future
- benefits from volatility, mean reverting
- anticipatory and sometimes contrarian
- usually top down, fundamental
- high leverage, lumpy returns
Opportunistic: Managed futures, risk profile and liquidity
- uncorrelated with stocks and bonds
- returns positively skewed
- majority of capital in short-term gov debt
- systematic, higher liquidity, quant driven
- crowding aspects cause execution slippage
Firm and investment risk in AI
- key person risk
- alignment of interest
- style drift
- risk management
- client / asset turnover (too many new clients, too many clients leaving)
- client profile (long term? risk averse?)
- service providers (admin, custodian, auditors)
Econometric model: pro vs cons
pros: - robust - new data quickly integrated - considers change in exogenous variable - impose discipline / consistency cons: - time consuming, complex - relationship between variables can change - false sense of precision - rarely forecasts turning points
economic indicator: pro vs con
pros: - intuitive, simple - focused on turning points - easily available, easy to track cons: - subject to revision, overfitting - provide false signals - only binary directions
checklist approach: pro vs con
pro:
- limited complexity
- flexible: any method, regime, source, structural changes
- large breadth, cover variety of topic, perspective, theory or assumption
cons:
- subjective, arbitrary, judgemental
- time consuming
- no clear mechanism for combining disparate information
- no consistency
initial recovery
- large output gap, inflation decelerating
- short-term rates and gov bond yields low
- curve is steep
- cyclical and riskier assets do well
