Asset Management Lecture 22. Review class Asset management process Planning with the client Investor objectives, constraints and preferences Execution.

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Presentation transcript:

Asset Management Lecture 22

Review class

Asset management process Planning with the client Investor objectives, constraints and preferences Execution by the asset manager: Asset allocation Risk and return, effects of diversification (views on inflation, growth, etc.) Security selection Market efficiency: can we beat the market? (private info) Execution How and when do you trade? (trading speed, trading costs) Evaluation: What are the risk and the return of the portfolio? Does the manager underperform or outperform? Risk aversion Markovic model, Single index model, Structural multifactor model Black-litterman model Portfolio evaluation, Performance attribution

Risk Aversion and utility values Risk aversion Utility value Calculate certainty equivalent rate Estimating risk aversion

Markowitz portfolio selection model Sharpe Ratio

Single-Index Model

Optimal Risky Portfolio of the Single-Index Model

Maximize the Sharpe ratio Expected return, SD, and Sharpe ratio:

Optimizing procedure

The Black-Litterman Model Step 1: Estimate the covariance matrix from historical data Step 2: Determine a baseline forecast Step 3: Integrating the manager’s private views Step 4: Developing revised (posterior) expectations Step 5: Apply portfolio optimization

The Black-Litterman Model Step 3: Integrating the manager’s private views Step 4: Developing revised (posterior) expectations BL Updating formulas

Structural multifactor model and factor choice Tracking portfolio Beta adjustment Alpha precision adjustment Style analysis

Tracking error Portfolios are often compared against a benchmark Tracking error Benchmark Risk: SD of Tracking error

Risk Adjusted Performance  p /  (e p ) Sharpe Treynor Jensen Information ratio M2M2

Calculate the return on the ‘Bogey’ and on the managed portfolio Explain the difference in return based on component weights or selection Summarize the performance differences into appropriate categories Performance Attribution

Formula for Attribution Contribution from asset allocation Contribution from security selection Total contribution from asset class i

Formula for International Attribution Contribution from country allocation Contribution from stock selection Total contribution Contribution from currency selection

Foreign exchange rate risk Country risk Home bias Hedge funds, strategies, and performance evaluation Alpha transfer

Behavioral finance: limits to arbitrage and investor irrationality Technical analysis

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